N-1A/A
1
etst_n1aa-0708.txt
As filed with the Securities and Exchange Commission on July 7, 2008
File Nos. 333-148886 and 811-22177
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-1A
Registration Statement Under the Securities Act of 1933
Pre-Effective Amendment No. 1
and
Registration Statement Under the Investment Company Act of 1940
Amendment No. 1
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EXCHANGE TRADED SPREADS TRUST
(Exact Name of Registrant as Specified in its Charter)
44 Montgomery Street, Suite 2100, San Francisco, California 94104
(Address of Principal Executive Office)
Registrant's Telephone Number: (415) 398-2727
STEPHEN C. ROGERS
44 Montgomery Street, Suite 2100, San Francisco, California 94104
(Name and Address of Agent for Service)
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The registrant hereby amends this registration statement on such date or dates
as may be necessary to delay its effective date until the registrant shall file
a further amendment which specifically states that this registration statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933 or until the registration statement shall become
effective on such date as the Commission, acting pursuant to Section 8(a), shall
determine.
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Please Send Copy of Communications to:
W. Thomas Conner, Esq. Eric C. Freed, Esq.
Sutherland Asbill & Brennan LLP Sutherland Asbill & Brennan LLP
1275 Pennsylvania Avenue, N.W. 1114 Avenue of the Americas
Washington, DC 20004-2415 40th Floor
New York, NY 10036
EXCHANGE TRADED SPREADS TRUST
ETSPREADS EXCHANGE TRADED FUNDS
The Exchange Traded Spreads Trust (the "Trust"), a registered investment
company, consists of four separate investment portfolios called "Funds." This
Prospectus relates to all four of the Funds:
ETSPREADS HIGH YIELD CDS TIGHTEN FUND
ETSPREADS HIGH YIELD CDS WIDEN FUND
ETSPREADS INVESTMENT GRADE CDS TIGHTEN FUND
ETSPREADS INVESTMENT GRADE CDS WIDEN FUND
ETSpreads, LLC (the "Adviser") is the investment adviser to each Fund. The
shares of the Funds are listed for trading at market prices on the NYSE Arca
Exchange ("NYSE Arca"). Each Fund has its own CUSIP number and exchange-trading
symbol. Market prices for a Fund's shares may be different from its net asset
value per share. Each Fund issues and redeems shares at net asset value only in
blocks of 100,000 shares or multiples thereof ("Creation Units") in exchange for
an amount of cash. As a practical matter, only institutions or large investors
are expected to purchase or redeem Creation Units.
Each Fund intends to enter into credit default swap contracts ("CDS Contracts"),
which are credit derivatives that allow investors to buy and sell protection
against default on the debt securities of a specific company, government, or
group of companies or governments ("Reference Entities"), to a substantial
degree. A seller of protection under a CDS Contract becomes subject to the
credit risk of the Reference Entities, which is the possibility that a Reference
Entity will become unwilling or unable to make timely payments on its debt
securities or to otherwise meet its obligations, and the related risk of a
decline in the value of the CDS Contract that will occur when the credit quality
of the Reference Entities deteriorates or is perceived to deteriorate.
Conversely, a buyer of protection pays a pre-determined amount for protection
against specified adverse credit events occurring with respect to a Reference
Entity (which amount will not be returned whether or not any such events occur),
and becomes subject to the risk that the value of the CDS Contract will decline
if the credit quality or the perceived credit quality of the Reference Entities
improves. The Funds are also subject to counterparty risk, which is the risk
that a party with which a Fund enters into CDS Contracts will become bankrupt or
otherwise fail to perform its obligations under CDS Contracts due to financial
difficulties.
EXCEPT WHEN AGGREGATED IN CREATION UNITS, SHARES OF EACH FUND ARE NOT REDEEMABLE
SECURITIES.
UNLIKE MOST ETFS, THE FUNDS ARE NOT INDEX FUNDS. THE FUNDS ARE ACTIVELY MANAGED
AND DO NOT SEEK TO REPLICATE THE PERFORMANCE OF A SPECIFIED INDEX.
THE SECURITIES AND EXCHANGE COMMISSION ("SEC") HAS NOT APPROVED OR DISAPPROVED
THESE SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
PROSPECTUS DATED _____ __, 2008
1
TABLE OF CONTENTS Page
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Introduction TBD
Principal Investment Strategies and Risks of Each Fund TBD
ETSpreads High Yield CDS Tighten Fund TBD
ETSpreads High Yield CDS Widen Fund TBD
ETSpreads Investment Grade CDS Tighten Fund TBD
ETSpreads Investment Grade CDS Widen Fund TBD
CDS Contracts TBD
Principal Risk Factors TBD
Performance Information TBD
Fees and Expenses TBD
Additional Information Regarding Investment Strategies and Risks TBD
Portfolio Holdings Information TBD
Portfolio Turnover TBD
Management TBD
Investment Adviser TBD
Portfolio Managers TBD
Administrator, Custodian and Transfer Agent TBD
Shareholder Information TBD
Buying and Selling Shares TBD
Book Entry TBD
Share Prices TBD
Determination of Net Asset Value TBD
Dividends and Distributions TBD
Taxes TBD
Taxes on Distributions TBD
Taxes when Shares are Sold TBD
Creations and Redemptions TBD
Transaction Fees TBD
Distribution TBD
Disclaimer TBD
2
EXCHANGE TRADED SPREADS TRUST'S ETSPREADS EXCHANGE TRADED FUNDS
INTRODUCTION
This Prospectus relates to the following four Funds that make up the EXCHANGE
TRADED SPREADS TRUST.
NAME OF FUND CUSIP TBD TICKER SYMBOL
------------ ----- -----------------
ETSPREADS HIGH YIELD CDS TIGHTEN FUND
ETSPREADS HIGH YIELD CDS WIDEN FUND
ETSPREADS INVESTMENT GRADE CDS TIGHTEN FUND
ETSPREADS INVESTMENT GRADE CDS WIDEN FUND
Each Fund intends to achieve its investment objective primarily by entering into
credit default swap contracts ("CDS Contracts"), including CDS Contracts based
on a specified group of Reference Entities ("CDX Contracts"). A detailed
discussion of CDS Contracts (including CDX Contracts) follows the discussion of
the principal investment strategies and risks of each Fund set forth immediately
below.
The Tighten Funds are designed so that the value of an investment in Fund shares
increases or decreases as a specified "credit market" goes up or down,
respectively. The two Widen Funds are designed so that the value of an
investment in Fund shares will move inversely with the specified credit market.
The value of an investment in a Fund will also reflect the return of the U.S.
Treasury bills in which the Funds will invest.
The term "credit market" has a specific meaning in this prospectus. It refers to
the trading market for the CDS Contracts with respect to a specified group of
companies. A credit market will go up if the aggregate credit quality or
perceived credit quality of the Reference Entities in the market improves. The
credit market will go down if the aggregate credit quality or perceived credit
quality of the Reference Entities in the market deteriorates.
The shares of the Funds are listed for trading at market prices on the NYSE
Arca. Market prices for a Fund's shares may be different from its net asset
value per share. Each Fund issues and redeems shares at net asset value only in
blocks of 100,000 shares ("Creation Units"). The Funds only accept cash for
purchases of Creation Units and make cash payments when Creation Units are
redeemed. As a practical matter, only institutions or large investors are
expected to purchase or redeem Creation Units.
PRINCIPAL INVESTMENT STRATEGIES AND RISKS OF EACH FUND
ETSPREADS HIGH YIELD CDS TIGHTEN FUND
CUSIP: TBD
TRADING SYMBOL: TBD
INVESTMENT OBJECTIVE:
ETSpreads High Yield CDS Tighten Fund seeks to provide investment results that
correspond generally, before fees and expenses, to the performance of the
five-year high yield credit market plus the return on U.S. Treasury bills. The
Fund's investment objective may be changed without shareholder approval.
PRINCIPAL INVESTMENT STRATEGIES:
The ETSpreads High Yield Fund achieves its high yield exposure primarily through
CDS Contracts and, under normal market conditions, will enter into CDS Contracts
with respect to Reference Entities with below investment grade credit ratings
with a "notional" or face value of at least 80% of its net assets. The Fund will
provide shareholders with at least 60 days' notice of any change in this 80%
policy. In order to gain exposure to the high yield credit market, the Fund will
normally be a net protection seller under CDS Contracts, and will be required to
make payments to the protection buyer when a specified adverse credit event
occurs relating to a Reference Entity.
If the Fund is successful in meeting its objective, its net asset value should
generally increase when the high yield credit market is rallying (going up),
which means that credit quality is improving and differences or "spreads"
between the returns on high yield debt securities generally and the returns on
debt securities with comparable maturities that are essentially free of credit
risk (such as U.S. Treasury securities) are decreasing or "tightening."
Conversely, its net asset value should generally decrease when the high yield
credit market is falling (going down), credit quality is deteriorating, and
spreads are increasing or "widening."
3
So that its performance generally tracks that of the high yield credit market,
the Fund will typically enter into CDX Contracts, in which the Reference
Entities are a pre-determined group of companies, but may invest in CDS
Contracts with respect to single Reference Entities or CDS Contracts other than
CDX Contracts that are based on baskets of Reference Entities when the Adviser
believes that such investments would better enable the Fund to achieve its
objective. The Fund generally will be required to provide collateral to CDS
Contract counterparties to secure its obligations under CDS Contracts. The
collateral required to be provided will generally represent a small portion of a
CDS Contract's aggregate notional value. Therefore, and in order to further
secure its contractual obligations and to maintain appropriate liquidity to meet
redemption requests, the Fund will generally invest in cash or cash equivalent
assets ("Cash Investments") at least equal in value to the notional amount of a
CDS Contract less the amount that has been provided as collateral. These Cash
Investments will typically be U.S. Treasury bills (direct obligations of the
U.S. government with maturities of one year of less when they are issued). When
investing in U.S. Treasury bills is not practicable, the Fund may also invest in
repurchase agreements and money market funds as Cash Investments.
PRINCIPAL RISKS:
The Fund is subject to the risk that the high yield credit market will fall and
therefore that its CDS Contracts will decline in value, or that it will be
required to make payments under such Contracts as a protection seller. While
conventional debt securities are generally subject to both the credit risk of
the issuer of the security and the risk of changes in market interest rates, CDS
Contracts effectively isolate and reflect only the credit risk of the debt
securities of the Reference Entities. The Fund is also subject to the credit
risk of its CDS Contract counterparties and all of the other risks set forth
below under "Principal Risk Factors," except for Inverse Fund Risk.
ETSPREADS HIGH YIELD CDS WIDEN FUND
CUSIP: TBD
TRADING SYMBOL: TBD
INVESTMENT OBJECTIVE:
ETSpreads High Yield CDS Widen Fund seeks to provide investment results that
correspond generally, before fees and expenses, to the inverse of the
performance of the five-year high yield credit market plus the return on U.S.
Treasury bills. The Fund's investment objective may be changed without
shareholder approval.
PRINCIPAL INVESTMENT STRATEGIES:
The ETSpreads Inverse High Yield Fund achieves its high yield exposure primarily
through CDS Contracts and, under normal market conditions, will enter into CDS
Contracts with respect to Reference Entities with below investment grade credit
ratings with a "notional" or face value of at least 80% of its net assets. The
Fund will provide shareholders with at least 60 days' notice of any changes in
this 80% policy. In order to gain inverse exposure to the high yield credit
market, the Fund will normally be a net protection buyer, and therefore will be
required to make the ongoing payments specified under such contracts that
represent the cost of purchasing protection from adverse credit events relating
to a Reference Entity.
If the Fund is successful in meeting its objective, its net asset value should
generally decrease when the high yield credit market is rallying (going up),
which means that credit quality is improving and differences or "spreads"
between the returns on high yield debt securities generally and the returns on
debt securities with comparable maturities that are essentially free of credit
risk (such as U.S. Treasury securities) are decreasing or "tightening."
Conversely, its net asset value should generally increase as the high yield
credit market is falling (going down), credit quality is deteriorating, and
spreads are increasing or "widening."
So that its performance generally tracks the inverse of that of the high yield
credit market, the Fund will typically invest in CDX Contracts, in which the
Reference Entities are a pre-determined group of companies, but may invest in
CDS Contracts with respect to single Reference Entities or CDS Contracts other
than CDX Contracts that are based on baskets of Reference Entities when the
Adviser believes that such investments would better enable the Fund to achieve
its objective. The Fund generally will be required to provide collateral to CDS
Contract counterparties to secure its obligations under CDS Contracts. The
collateral required to be provided will generally represent a small portion of a
CDS Contract's aggregate notional value. Therefore, and in order to further
secure its contractual obligations and to maintain appropriate liquidity to meet
redemption requests, the Fund will generally invest in cash or cash equivalent
assets ("Cash Investments") at least equal in value to the notional amount of a
CDS Contract less the amount that has been provided as collateral. These Cash
Investments will typically be U.S. Treasury bills (direct obligations of the
U.S. government with maturities of one year of less when they are issued). When
investing in U.S. Treasury bills is not practicable, the Fund may also invest in
repurchase agreements and money market funds as Cash Investments.
4
PRINCIPAL RISKS:
The Fund is subject to the risk that the high yield credit market will rally and
therefore that its CDS Contracts will decline in value, or that the payments it
is required to make as a protection buyer will exceed any increase in the value
of such Contracts. While conventional debt securities are generally subject to
both the credit risk of the issuer of the security and the risk of changes in
market interest rates, CDS Contracts effectively isolate and reflect only the
credit risk of the debt securities of the Reference Entities. The Fund is also
subject to the credit risk of its CDS Contract counterparties and all of the
other risks set forth below under "Principal Risk Factors."
ETSPREADS INVESTMENT GRADE CDS TIGHTEN FUND
CUSIP: TBD
TRADING SYMBOL: TBD
INVESTMENT OBJECTIVE:
ETSpreads Investment Grade CDS Tighten Fund seeks to provide investment results
that correspond generally, before fees and expenses, to the performance of the
five-year investment grade credit market plus the return on U.S. Treasury bills.
The Fund's investment objective may be changed without shareholder approval.
PRINCIPAL INVESTMENT STRATEGIES:
The ETSpreads Investment Grade CDS Tighten Fund achieves its investment grade
exposure primarily through CDS Contracts and, under normal market conditions,
will enter into CDS Contracts with respect to Reference Entities with investment
grade credit ratings with a "notional" or face value of at least 80% of its net
assets. The Fund will provide shareholders with at least 60 days' notice of any
change in this 80% policy. In order to gain exposure to the investment grade
credit market, the Fund will normally be a net protection seller under CDS
Contracts, and will be required to make payments to the protection buyer when a
specified adverse credit event occurs relating to a Reference Entity.
If the Fund is successful in meeting its objective, its net asset value should
generally increase when the investment grade credit market is rallying (going
up) which means that credit quality is improving and differences or "spreads"
between the returns on investment grade debt securities generally and the
returns on debt securities with comparable maturities that are essentially free
of credit risk (such as U.S. Treasury securities) are decreasing or
"tightening." Conversely, its net asset value should generally decrease when the
investment grade credit market is falling (going down), credit quality is
deteriorating, and spreads are increasing or "widening."
So that its performance generally tracks that of the investment grade credit
market, the Fund will typically invest in CDX Contracts, in which the Reference
Entities are a pre-determined group of companies, but may invest in CDS
Contracts with respect to single Reference Entities or CDS Contracts other than
CDX Contracts that are based on baskets of Reference Entities when the Adviser
believes that such investments would better enable the Fund to achieve its
objective. The Fund generally will be required to provide collateral to CDS
Contract counterparties to secure its obligations under CDS Contracts. The
collateral required to be provided will generally represent a small portion of a
CDS Contract's aggregate notional value. Therefore, and in order to further
secure its contractual obligations and to maintain appropriate liquidity to meet
redemption requests, the Fund will generally invest in cash or cash equivalent
assets ("Cash Investments") at least equal in value to the notional value of a
CDS Contract less the amount that has been provided as collateral. These Cash
Investments will typically be U.S. Treasury bills (direct obligations of the
U.S. government with maturities of one year of less when they are issued). When
investing in U.S. Treasury bills is not practicable, the Fund may also invest in
repurchase agreements and money market funds as Cash Investments.
PRINCIPAL RISKS:
The Fund is subject to the risk that the investment grade credit market will
fall and therefore that its CDS Contracts will decline in value, or that it will
be required to make payments under such Contracts as a protection seller. While
conventional debt securities are generally subject to both the credit risk of
the issuer of the security and the risk of changes in market interest rates, CDS
Contracts effectively isolate and reflect only the credit risk of the debt
securities of the Reference Entities. The Fund is also subject to the credit
risk of its CDS Contract counterparties and all of the other risks set forth
below under "Principal Risk Factors," except for High Yield Risk and Inverse
Correlation Risk.
5
ETSPREADS INVESTMENT GRADE CDS WIDEN FUND
CUSIP: TBD
TRADING SYMBOL: TBD
INVESTMENT OBJECTIVE:
ETSpreads Investment Grade CDS Widen Fund seeks to provide investment results
that correspond generally, before fees and expenses, to the performance of the
five-year investment grade credit market plus the return on U.S. Treasury bills.
The Fund's investment objective may be changed without shareholder approval.
PRINCIPAL INVESTMENT STRATEGIES:
The ETSpreads Investment Grade CDS Widen Fund achieves its investment grade
exposure primarily through CDS Contracts and, under normal market conditions,
will enter into CDS Contracts with respect to Reference Entities with investment
grade credit ratings with a "notional" or face value of at least 80% of its net
assets. The Fund will provide shareholders with at least 60 days' notice of any
change in this 80% policy. In order to gain inverse exposure to the high yield
credit market, the Fund will normally be a net protection buyer under CDS
Contracts, and therefore will be required to make the ongoing payments specified
under such contracts that represent the cost of purchasing protection from
adverse credit events relating to a Reference Entity.
If the Fund is successful in meeting its objective, its net asset value should
generally decrease as the investment grade credit market is rallying (going up),
which means that credit quality is improving and differences or "spreads"
between the returns on investment grade corporate debt securities generally and
the returns on debt securities with comparable maturities that are essentially
free of credit risk (such as U.S. Treasury securities) are decreasing or
"tightening." Conversely, its net asset value should generally increase as the
investment grade credit market is falling (going down), credit quality is
deteriorating, and spreads are increasing or "widening."
So that its performance generally tracks the inverse of that of the investment
grade credit market, the Fund will typically invest in CDX Contracts, in which
the Reference Entities are a pre-determined group of companies, but may invest
in CDS Contracts with respect to single Reference Entities or CDS Contracts
other than CDX Contracts that are based on baskets of Reference Entities when
the Adviser believes that such investments would better enable the Fund to
achieve its objective. The Fund generally will be required to provide collateral
to CDS Contract counterparties to secure its obligations under CDS Contracts.
The collateral required to be provided will generally represent a small portion
of a CDS Contract's aggregate notional value. Therefore, and in order to further
secure its contractual obligations and to maintain appropriate liquidity to meet
redemption requests, the Fund will generally invest in cash or cash equivalent
assets ("Cash Investments") at least equal in value to the notional amount of a
CDS Contract less the amount that has been provided as collateral. These Cash
Investments will typically be U.S. Treasury bills (direct obligations of the
U.S. government with maturities of one year of less when they are issued). When
investing in U.S. Treasury bills is not practicable, the Fund may also invest in
repurchase agreements and money market funds as Cash Investments.
PRINCIPAL RISKS:
The Fund is subject to the risk that the investment grade credit market will
rally and therefore that its CDS Contracts will decline in value, or that the
payments it is required to make as a protection buyer will exceed any increase
in the value of such Contracts. While conventional debt securities are generally
subject to both the credit risk of the issuer of the security and the risk of
changes in market interest rates, CDS Contracts effectively isolate and reflect
only the credit risk of the debt securities of the Reference Entities. The Fund
is also subject to the credit risk of its CDS Contract counterparties and all of
the other risks set forth below under "Principal Risk Factors," except for High
Yield Risk.
CDS CONTRACTS
CDS Contracts are derivative instruments that allow investors to buy and sell
protection against default or other adverse credit event with respect to the
debt securities of a specific Reference Entity or group of Reference Entities.
CDX Contracts are a type of CDS Contract that allow investors to buy and sell
protection with respect to a pre-determined group of Reference Entities from
various industries, but with similar credit ratings. High Yield CDX Contracts
relate to 100 North American companies with below investment grade credit
ratings (ratings below BBB and Baa from Standard & Poor's and Moody's,
respectively), whose debt obligations are sometimes referred to as "high yield"
or "junk" bonds. Investment Grade CDX Contracts relate to 125 North American
companies with investment grade credit ratings (ratings of BBB and Baa and
above).
6
In a CDS transaction, the protection buyer agrees to pay the protection seller a
set periodic amount for the life of the contract, based on a given notional
amount of the contract. This amount will vary depending on the credit quality or
perceived credit quality of the Reference Entity or Reference Entities
underlying the contract, and has no fixed relationship to its notional value. In
addition, if a CDX Contract is entered into after CDX Contracts of the same
series have begun to be offered, the protection buyer will make payment to, or
receive a payment from, the protection seller to take into account the
difference between the current market value of the CDX Contract and the initial
value of that CDX Contract.
In exchange for the amount paid, the protection seller agrees to make certain
payments in the event of a credit event (such as a default) relating to a
Reference Entity. The CDS Contract may call for cash settlement or physical
settlement if such a credit event occurs, or may permit the protection buyer to
choose either cash or physical settlement. If physically settled, the protection
buyer delivers to the protection seller specified securities of the defaulted
Reference Entity with a principal amount equal to the original notional value of
the CDS Contract (or, in the case of a CDX Contract, the notional amount of the
defaulted security that reflects its weighting in the CDX Contract), and the
protection seller delivers the face amount of such securities in cash. If the
CDS Contract is cash settled, the cash price to be paid to the protection buyer
will generally be determined by an auction conducted under protocols published
by the International Swap and Derivatives Association, Inc. ("ISDA"). A Fund
generally intends to require cash settlement under its CDS Contracts.
The protection buyer is protected against a default by a Reference Entity, and
the protection seller takes on the risk of such a default. A Fund acting as a
protection seller is buying exposure to the credit risk relating to certain
issuers of high yield or investment grade debt securities (and theoretically
could suffer a loss of the entire notional value of the CDS Contract) and the
related potential to profit from actual or perceived improvements in the
creditworthiness of issuers in the relevant debt market. Conversely, a
protection buyer pays for protection from such risk and could profit if the
prospects of the Reference Entities, or the issuers of high yield or investment
grade debt securities generally, decline.
CDS Contracts are privately negotiated arrangements generally entered into
between institutional investors. Ownership of a contract cannot be freely
transferred without the consent of the other party. Instead, the Funds can
dispose of a CDS position by two different means, each of which involves
settlement payment by one of the parties. First, the parties can agree to a
"termination" (or "tear-up"), under which they agree to terminate the original
obligation following payment. Second, a party can enter into a "novation" (or
"assignment") with the consent of the counterparty, under which the party
transfers its rights and obligations under the CDS Contract to a third party in
exchange for a payment. In addition, one party can enter into an offsetting
transaction (for example, if the original transaction involved selling
protection, the party would buy protection on the same notional amount with the
same or a different counterparty), which leaves the original transaction in
place but offsets its economic effect. The Adviser generally expects to unwind
CDS Contracts through termination or novation rather than offset in order to
avoid incurring additional credit exposure to a second counterparty and to avoid
the possibility that values of the respective positions will differ, although it
may enter into an offsetting transaction if the Adviser believes such a
transaction is in the best interest of Fund shareholders. In order to ensure
that the Funds will be able to meet requests for redemption of Creation Units, a
Fund will only enter into CDS Contracts with counterparties that agree to
provide the Fund with a price quote at least once each day at which the Contract
could be terminated.
CDS transactions are documented under standard ISDA forms. Specifically, the
ISDA Master Agreement provides a set of default terms for derivative
transactions. The counterparties also negotiate a "schedule" to the Master
Agreement to account for party-specific terms, including those that relate to
the relative credit positions of each party, and a separate "Credit Support
Annex" under which collateral for the parties' obligations will be provided. The
Adviser has entered into ISDA Master Agreements on behalf of the Funds with
several of the commercial and investment banks that are market makers in CDS
Contracts and expects to add additional counterparties in the future.
In the case of CDX Contracts, a new series of Contract (sometimes with one or
more different Reference Entities) is established every six months. However,
existing CDX Contracts of the prior series may remain outstanding, and the Funds
will typically invest in CDX Contracts having a term of approximately five years
(i.e., that require the protection buyer and protection seller to make the
payments specified under the CDX Contract for a five year period). In order to
achieve performance that corresponds generally with that of the relevant credit
market (or the inverse of such performance), each Fund typically will replace
the prior five year CDX Contract with the newly issued, or so-called
"on-the-run," CDX Contract on the date that it is issued or reasonably soon
thereafter.
7
PRINCIPAL RISK FACTORS
Except as noted above, each Fund is subject to the principal risks described
below. Additional risks associated with a Fund are discussed below under
"Additional Information Regarding Investment Strategies and Risks." These
principal risks may adversely affect a Fund's net asset value, trading price,
yield, total return and/or its ability to meet its objectives. An investor may
lose money investing in any of the Funds. Certain of the risks discussed in this
section apply to the ETSpreads High Yield CDS Widen Fund and ETSpreads
Investment Grade CDS Widen Fund in an inverse or opposite fashion than they
would apply to a more traditional fund.
AGGRESSIVE INVESTMENT TECHNIQUE RISK
A Fund may use investment techniques that may be considered aggressive,
particularly entering into CDS Contracts. Such techniques may expose a Fund to
potentially dramatic changes (losses or gains) in the value of its portfolio.
These techniques also may expose the Fund to risks different from or possibly
greater than the risks associated with investing directly in the debt
obligations of the Reference Entities, including: 1) the risk that an instrument
is temporarily mis-priced; 2) credit or performance risk on the amount the Fund
expects to receive from a counterparty; 3) the risk that security prices,
interest rates and credit markets will move adversely and the Fund will incur
significant losses; and 4) the risk that the Funds will not be able to sell,
terminate or adjust its position in CDS Contracts
FIXED INCOME RISK
The market value of debt securities will change in response to such factors as
interest rate changes, changes in the effective maturities of the securities,
and changes or perceived changes in the credit risk of the issuers of the
securities. The prices of the CDS Contracts that are the Funds' principal
investment will be sensitive to changes in credit risk and to the difference or
"spread" between interests rates for the securities of the Reference Entities
and interest rates for fixed income securities essentially free of credit risk,
such as U.S. Treasury obligations.
CREDIT RISK. The debt obligations of the Reference Entities under the CDS
Contracts are subject to credit risk, which is the risk that the issuer or
guarantor of a debt instrument becomes unwilling or unable to make timely
principal and/or interest payments, or to otherwise meet its obligations.
Corporate debt securities are subject to varying degrees of credit risk, which
are often reflected in credit ratings, with high yield debt securities being
subject to higher credit risk. Credit risk should be less of a factor with
respect to the Funds' Cash Investments, although some of those investments may
involve some degree of credit risk. The Funds are also subject to credit risk
from its counterparties. (See "Counterparty Risk" below.)
HIGH YIELD RISK. High yield debt securities, commonly known as junk bonds,
are rated below investment grade and are considered speculative. The prices of
high yield bonds may fluctuate unpredictably and may be particularly sensitive
to changes or perceived changes in credit risk. These securities are sensitive
to company, political or economic developments and may present increased levels
of liquidity risk. High yield debt instruments generally pay higher yields than
investment grade securities; however, high yield debt instruments involve
greater risk of an issuer's continuing ability to make timely principal and
interest payments and involve greater risk of default or bankruptcy of the
issuer of the security. Rising interest rates or a downturn in the economy could
negatively affect the market for these securities (or derivatives relating to
such securities) and reduce market liquidity. If such an issuer is a Reference
Entity and is in default of its principal and interest payments, a protection
seller under a CDS Contract relating to such Reference Entity may lose the
entire notional value represented by that issuer under the Contract.
OTHER CDS CONTRACT RISKS
COUNTERPARTY RISK. Each Fund will be subject to credit risk with respect
to the counterparties to financial instruments entered into by that Fund. If a
counterparty becomes bankrupt or otherwise fails to perform its obligations due
to financial difficulties, the value of an investor's investment in Shares of a
Fund may decline.
8
More specifically, CDS Contracts, including CDX Contracts, are traded in the
"over-the-counter" or "inter-dealer" markets which are typically not subject to
credit evaluation and regulatory oversight. This exposes a Fund to the risk that
a counterparty will not settle a transaction in accordance with its terms and
conditions whether due to a dispute (whether or not bona fide) over the terms of
the contract or due to a credit or liquidity problem of the counterparty, thus
causing the Fund to suffer a loss. Although the Adviser will evaluate the
creditworthiness of the Funds' counterparties and will enter into CDS Contracts
with only those counterparties that it deems creditworthy, there can be no
guarantee that its evaluations will be correct. Such "counterparty risk" is
accentuated for contracts with longer maturities where there is a greater
likelihood that events may intervene to prevent settlement. In addition, while
each Fund intends to require each counterparty to provide collateral to cover
all of the counterparty's estimated potential payment obligations to the Fund if
that counterparty's CDS Contracts with the Fund were to be terminated, such
collateral may not be provided when required or may not be in an amount
necessary to cover the actual payment obligations of the counterparty on
termination of the CDS Contracts. The receipt of collateral from a counterparty
may reduce, but it will not eliminate, counterparty risk.
In the event of a counterparty default, the Fund will have the right to
terminate the contract upon notice to the counterparty. The Fund will be exposed
to market risk from the date for which the counterparty last posted collateral
to the contract termination date. The Fund will lose an amount equal to the
amount owed to it by the counterparty minus the value of the posted collateral.
Finally, a Fund may use a small number of counterparties, in which case the
Fund's risk would be more concentrated in those counterparties than would have
been the case if it used a larger number of counterparties.
LIQUIDITY RISK. There can be no assurance that liquidity will exist in the
market for CDS Contracts at any time in the future. While the Funds have
entered into agreements allowing them to terminate CDS Contracts at any
time, a counterparty may not meet its contractual commitment to pay the
Funds the amounts due upon termination, or be willing to otherwise unwind,
novate or terminate a CDS transaction under terms acceptable to the Fund.
A counterparty is under no obligation to agree to a novation of a CDS
Contract, as the counterparty may choose not to establish a contractual
relationship with a third party. Therefore, the Fund, as a party to a CDS
Contract, may need to hold its position in the contract for an indefinite
period of time or until it terminates in accordance with its terms.
RISKS RELATING TO SETTLEMENT OF CREDIT EVENTS. The auction process that
takes place after a credit event occurs under a cash-settled CDS Contract may
fail to determine a final cash settlement price due to insufficient bids or
other reasons. In these cases, physical settlement may still be necessary
notwithstanding the terms of the CDS Contract.
While the Fund intends that its CDS Contracts generally require cash settlement,
if physical settlement is called for under a CDS Contract or becomes necessary
as a result of a failed auction, a Fund acting as a protection buyer will need
to purchase the securities of the affected Reference Entity upon the occurrence
of a credit event in order to deliver it and obtain par value payment or an
equivalent cash value. An active market may not exist in such securities. As a
result, the Fund's ability to maximize returns or minimize losses on its CDS
Contracts may be impaired.
DOCUMENTATION RISK. The vast majority of CDS transactions are executed
under ISDA documentation. The Adviser has entered into ISDA Master Agreements on
behalf of the Funds with several counterparties and intends to add additional
counterparties in the future. There can be no assurance that the ISDA
documentation among the counterparties will be uniform and on comparable terms.
Therefore, depending on the counterparty to a specific transaction, the
applicable Fund may be subject to better or more onerous terms. Additionally, if
a Fund offsets a CDS Contract position by entering into an offsetting
transaction, the two transactions may be subject to different ISDA terms,
creating risk that the amounts due on early termination will not match or that
only one of the transactions will terminate.
NO RIGHTS WITH RESPECT TO REFERENCE ENTITY. Participation in a CDS
Contract does not constitute a purchase or other acquisition or assignment of
any interest in any obligation of any Reference Entity. The parties to the CDS
Contract will have no recourse against any Reference Entity under such Contract
and will have no rights to enforce directly compliance by any Reference Entity
with the terms of its obligations, no voting rights with respect to any
Reference Entity, and no security interest in any obligation of a Reference
Entity.
EVOLVING NATURE OF THE CDS CONTRACT MARKETS. The CDS Contract markets are
continuously evolving and the definitions and terms of CDS Contracts are subject
to interpretation and further evolution. There can be no assurance that changes
to the markets or the contractual definitions and terms applicable will be
predictable. Amendments to standard ISDA documentation will apply to an
outstanding CDS transaction only if the contract is amended. The Funds are
subject to the risk that contractual definition and terms could be interpreted
in a manner that would be adverse to them or that the credit derivatives market
generally may evolve in a manner that would be adverse to them.
9
LACK OF GOVERNMENT INSURANCE OR GUARANTEE
An investment in a Fund is not a bank deposit and it is not insured or
guaranteed by the Federal Deposit Insurance Corporation or any other government
agency.
LACK OF MARKET LIQUIDITY FOR SHARES
Although shares of the Funds described in this Prospectus are listed for trading
on a national securities exchange, there can be no assurance that an active
trading market for such shares will develop or be maintained. There can be no
assurance that the requirements necessary to maintain the listing of the shares
of any Fund will continue to be met or will remain unchanged. Additionally,
secondary market trading in Fund shares may be halted by a national securities
exchange because of market conditions or for other reasons. In addition, trading
in Fund shares is subject to trading halts caused by extraordinary market
volatility pursuant to "circuit breaker" rules.
SHARES OF THE FUNDS MAY TRADE AT PRICES BELOW NET ASSET VALUE
Shares of the Funds may trade at, above or below their net asset value or
"NAV." The per share net asset value of each Fund will fluctuate with changes
in the market value of such Fund's holdings. The trading prices of a Fund's
shares will reflect market supply and demand for shares, and therefore may not
track net asset value closely.
MANAGEMENT RISK
Each Fund is subject to management risk, which is the risk that the Adviser's
investment strategy, the implementation of which is subject to a number of
constraints, may not produce the intended results. Because CDS Contract differ
from securities more typically invested in by other mutual funds and
exchange-traded funds, the expertise and effort required of the Adviser in order
to track the Funds' Underlying Index differs from the expertise and effort
required of the managers of typical funds. The Funds' portfolio managers do not
have experience managing investment companies or portfolios similar to the
Funds. No assurance can be given that the trading systems and strategies
utilized by the Adviser including, without limitation, the investment strategy
of the Adviser, will prove successful under all or any market conditions.
MARKET RISK
Each Fund is subject to market risks that will affect the value of its shares,
including general economic and market conditions, as well as developments that
impact specific economic sectors, industries or companies. The market price of
investments held by a Fund may go down, sometimes rapidly or unpredictably. The
value of an investment may decline due to general market conditions which are
not specifically related to a particular company, such as real or perceived
adverse economic conditions, changes in the general outlook for corporate
earnings, changes in interest or currency rates or adverse investor sentiment
generally. Because the Funds attempt to track the performance of credit markets
generally, the Funds' investments in CDS Contracts will generally be made
without regard to market conditions, trends or direction, and the Adviser will
not take temporary defensive positions.
INVERSE FUND RISK
Where a Fund's investment objective involves seeking investment results that
correspond generally to the inverse (opposite) of the total return of the high
yield or investment grade credit market, the Fund will generally lose value as
the relevant market is rallying (gaining value). This result is the opposite of
traditional fixed income mutual funds, and certain of the risks discussed in
this Prospectus apply to those Funds in an inverse or opposite fashion than they
would apply to a traditional fixed income mutual fund.
CONCENTRATION RISK/STRUCTURAL RISK
The concentration of the Funds in one particular market sector (the high yield
debt or "junk bond" sector or the investment grade debt sector) subjects them to
a greater degree of risk with respect to defaults within that sector or, in the
case of the High Yield CDS Widen Fund and Investment Grade CDS Widen Fund, an
absence of defaults in the corresponding sector.
NON-DIVERSIFICATION RISK
The Funds are classified as "non-diversified" under the federal securities laws.
Each Fund has the ability to concentrate a relatively high percentage of its
investments in the securities of a small number of issuers or in contracts with
a small number of counterparties, if the Adviser determines that doing so is the
most efficient means of meeting its investment objective. This would make the
performance of the Fund more susceptible to a single economic, political or
regulatory event than a more diversified fund might be.
10
FREQUENT TRADING RISK
Each Fund's strategy involves buying and selling CDS Contracts frequently to
maintain exposure to only "on-the-run" Contracts. Consequently, each Fund is
expected to have relatively high "portfolio turnover," generally in excess of
100%. The frequent purchases and sales may result in a Fund paying higher levels
of transaction costs and generating greater tax liabilities for shareholders.
Frequent trading risk may cause the Fund's performance to be less than expected.
A significant portion of a Fund's assets may come from investors who engage in
strategic and tactical asset allocation involving frequent trading of Fund
shares to take advantage of anticipated changes in market conditions. While such
frequent trading will generally occur in secondary market transactions that do
not affect the Funds, such trading may also result in frequent creations and
redemptions of Creation Units, which may cause the Funds to buy and sell
portfolio securities (e.g., revise their CDS Contract exposure), and thereby
increase the Funds' trading. In addition, large movements of assets into and out
of a Fund may negatively impact the Fund's ability to achieve its investment
objective.
TAX RISK
The goal of the Adviser is to manage the Funds to satisfy the requirements for
"regulated investment company" status under Subchapter M of the Internal Revenue
Code of 1986 (the "Code"), and the Adviser expects that the Funds will satisfy
such requirements. However, there can be no assurance that this goal will be
achieved for each of the Funds' taxable years. As noted above, the Funds
currently intend to gain exposure to the high yield and investment grade credit
markets primarily by entering into CDS Contracts. The treatment of these
derivatives under tests applied in determining qualification as a regulated
investment company under the Code is uncertain. The Funds have not obtained an
opinion of counsel and there is no definitive guidance concerning the proper
treatment of CDS Contracts under the Code provisions relating to qualification
as a regulated investment company. If a Fund failed to qualify as a regulated
investment company in any year, it would be subject to federal income tax on its
net income and capital gains at regular corporate income tax rates (without a
deduction for distributions to shareholders). When distributed, that income
would also be taxable to shareholders at ordinary rates to the extent of the
Fund's current and accumulated earnings and profits, subject to the potential
application of the dividends received deduction in the case of corporate
investors and the lower rates on certain qualified dividend income in the case
of individual investors. The result of a Fund's failure to qualify under
Subchapter M would be a reduction in investors' returns.
VALUATION RISK
During periods of reduced market liquidity or in the absence of readily
available market quotations for securities in a Fund's portfolio, the ability of
the Fund to value its securities becomes more difficult and the judgment of the
Adviser (through fair value procedures adopted by the Trustees) may play a
greater role in the valuation of the Fund's securities due to reduced
availability of reliable objective pricing data. Consequently, while such
determinations may be made in good faith, it may nevertheless be more difficult
for the Fund to accurately assign a daily value to such securities.
PERFORMANCE INFORMATION
Performance information is not available because the Funds are new.
FEES AND EXPENSES
HIGH YIELD CDS TIGHTEN FUND
This table describes the fees and expenses that you may pay if you buy and hold
shares of the Fund. Most investors will buy and sell shares of the Fund through
brokers, and will pay brokerage commissions to their broker when buying or
selling shares. No such commissions are reflected in the table below, although
the transaction fees paid by large investors when purchasing or redeeming
Creation Units are:
11
SHAREHOLDER FEES
(fees paid directly from an investment)
Creation Transaction Fee(1) $500
Redemption Transaction Fee(1) $500
ANNUAL FUND OPERATING EXPENSES
(expenses that are deducted from the Fund's assets)(2)
Management Fees 0.49%
Distribution and Service (12b-1) Fees None
Other Expenses(3) 0.00%
TOTAL ANNUAL FUND OPERATING EXPENSES 0.49%
(1) Per day on which Creation Units are purchased or redeemed, regardless of the
number of Creation Units. See the Transaction Fees section below.
(2) Expressed as a percentage of average net assets on an annual basis.
(3) Other Expenses are based on estimated amounts for the Fund's current fiscal
year. Trust's Investment Advisory Agreement provides that the Adviser will pay
all operating expenses of the Trust, except interest expense and taxes (both
expected to be de minimisany brokerage expenses, future distribution fees or
expenses and extraordinary expenses.
EXAMPLES
These Examples are intended to help you compare the cost of investing in shares
of the Fund with the cost of investing in other funds.
The first Example assumes that you invest $10,000 in the Fund for the time
periods indicated, while the second assumes a $3 million Creation Unit
investment for the same time periods. Both examples assume that you sell all of
your shares at the end of those periods. The Examples also assume that your
investment has a 5% return each year. Although your actual costs may be higher
or lower, based on the assumptions, your costs would be:
$10,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
$3,000,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
HIGH YIELD CDS WIDEN FUND
This table describes the fees and expenses that you may pay if you buy and hold
shares of the Fund. Most investors will buy and sell shares of the Fund through
brokers, and will pay brokerage commissions to their broker when buying or
selling shares. No such commissions are reflected in the table below, although
the transaction fees paid by large investors when purchasing or redeeming
Creation Units are:
SHAREHOLDER FEES
(fees paid directly from an investment)
Creation Transaction Fee(1) $500
Redemption Transaction Fee(1) $500
ANNUAL FUND OPERATING EXPENSES
(expenses that are deducted from the Fund's assets)(2)
Management Fees 0.49%
Distribution and Service (12b-1) Fees None
Other Expenses(3) 0.00%
TOTAL ANNUAL FUND OPERATING EXPENSES 0.49%
(1) Per day on which Creation Units are purchased or redeemed, regardless of the
number of Creation Units. See the Transaction Fees section below.
(2) Expressed as a percentage of average net assets on an annual basis.
(3) Other Expenses are based on estimated amounts for the Fund's current fiscal
year. Trust's Investment Advisory Agreement provides that the Adviser will pay
all operating expenses of the Trust, except interest expense and taxes (both
expected to be de minimis brokerage expenses, future distribution fees or
expenses and extraordinary expenses.
12
EXAMPLES
These Examples are intended to help you compare the cost of investing in shares
of the Fund with the cost of investing in other funds.
The first Example assumes that you invest $10,000 in the Fund for the time
periods indicated, while the second assumes a $3 million Creation Unit
investment for the same time periods. Both examples assume that you sell all of
your shares at the end of those periods. The Examples also assume that your
investment has a 5% return each year. Although your actual costs may be higher
or lower, based on the assumptions, your costs would be:
$10,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
$3,000,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
INVESTMENT GRADE CDS TIGHTEN FUND
This table describes the fees and expenses that you may pay if you buy and hold
shares of the Fund. Most investors will buy and sell shares of the Fund through
brokers, and will pay brokerage commissions to their broker when buying or
selling shares. No such commissions are reflected in the table below, although
the transaction fees paid by large investors when purchasing or redeeming
Creation Units are:
SHAREHOLDER FEES
(fees paid directly from an investment)
Creation Transaction Fee(1) $500
Redemption Transaction Fee(1) $500
ANNUAL FUND OPERATING EXPENSES
(expenses that are deducted from the Fund's assets)(2)
Management Fees 0.49%
Distribution and Service (12b-1) Fees None
Other Expenses(3) 0.00%
TOTAL ANNUAL FUND OPERATING EXPENSES 0.49%
(1) Per day on which Creation Units are purchased or redeemed, regardless of the
number of Creation Units. See the Transaction Fees section below.
(2) Expressed as a percentage of average net assets on an annual basis.
(3) Other Expenses are based on estimated amounts for the Fund's current fiscal
year.The Trust's Investment Advisory Agreement provides that the Adviser will
pay all operating expenses of the Trust, except interest expense and taxes (both
expected to be de minimisany brokerage expenses, future distribution fees or
expenses and extraordinary expenses.
EXAMPLES
These Examples are intended to help you compare the cost of investing in shares
of the Fund with the cost of investing in other funds.
The first Example assumes that you invest $10,000 in the Fund for the time
periods indicated, while the second assumes a $3 million Creation Unit
investment for the same time periods. Both examples assume that you sell all of
your shares at the end of those periods. The Examples also assume that your
investment has a 5% return each year. Although your actual costs may be higher
or lower, based on the assumptions, your costs would be:
$10,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
13
$3,000,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
INVESTMENT GRADE CDS WIDEN FUND
This table describes the fees and expenses that you may pay if you buy and hold
shares of the Fund. Most investors will buy and sell shares of the Fund through
brokers, and will pay brokerage commissions to their broker when buying or
selling shares. No such commissions are reflected in the table below, although
the transaction fees paid by large investors when purchasing or redeeming
Creation Units are:
SHAREHOLDER FEES
(fees paid directly from an investment)
Creation Transaction Fee(1) $500
Redemption Transaction Fee(1) $500
ANNUAL FUND OPERATING EXPENSES
(expenses that are deducted from the Fund's assets)(2)
Management Fees 0.49%
Distribution and Service (12b-1) Fees None
Other Expenses(3) 0.00%
TOTAL ANNUAL FUND OPERATING EXPENSES 0.49%
(1) Per day on which Creation Units are purchased or redeemed, regardless of the
number of Creation Units. See the Transaction Fees section below.
(2) Expressed as a percentage of average net assets on an annual basis.
(3) Other Expenses are based on estimated amounts for the Fund's current fiscal
year.The Trust's Investment Advisory Agreement provides that the Adviser will
pay all operating expenses of the Trust, except interest expense and taxes (both
expected to be de minimisany brokerage expenses, future distribution fees or
expenses and extraordinary expenses.
EXAMPLES
These Examples are intended to help you compare the cost of investing in shares
of the Fund with the cost of investing in other funds.
The first Example assumes that you invest $10,000 in the Fund for the time
periods indicated, while the second assumes a $3 million Creation Unit
investment for the same time periods. Both examples assume that you sell all of
your shares at the end of those periods. The Examples also assume that your
investment has a 5% return each year. Although your actual costs may be higher
or lower, based on the assumptions, your costs would be:
$10,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
$3,000,000 INVESTMENT
1 YEAR: TBD
3 YEARS: TBD
CREATION TRANSACTION FEES AND REDEMPTION TRANSACTION FEES
Each Fund issues and redeems shares at net asset value only in blocks of 100,000
shares or multiples of 100,000 shares. As a practical matter, only institutions
or large investors purchase or redeem these Creation Units. The value of a
Creation Unit of each Fund as of _________, 2008, the date the Funds commenced
operations, was $3,000,000. An investor who holds Creation Units will pay the
annual fund operating expenses described in the tables above, and an investor
who wishes to purchase or redeem Creation Units at net asset value would also
pay a standard transaction fee of $500 on the date of such transaction,
regardless of the number of Creation Units purchased or redeemed that day. (See
the Transaction Fees section below.)
14
ADDITIONAL INFORMATION REGARDING INVESTMENT STRATEGIES AND RISKS
In addition to investing in CDS Contracts and Cash Investments, the Adviser may
seek to achieve the Fund's investment objective by investing in: interest rate
swaps; futures contracts; and/or other financial instruments. None of these
investments will be principal strategies of the Funds. Additional information
about these investments is included in the Funds' Statement of Additional
Information ("SAI").
OTHER INVESTMENT COMPANIES (MONEY MARKET FUNDS)
Investing in other investment companies involves substantially the same risks as
investing directly in the instruments held by the investment company, but may
involve additional expenses at the investment company level, such as investment
advisory fees and operating expenses.
INTEREST RATE RISK
During periods of falling interest rates, the values of outstanding fixed income
securities generally rise. Conversely, during periods of rising interest rates,
the values of such securities and related financial instruments generally
decline. While securities with longer maturities tend to produce higher yields,
the prices of longer maturity securities are also subject to greater market
fluctuations as a result of changes in interest rates. CDS Contracts generally
do not involve interest rate risk, and the short-term nature of the Funds' Cash
Investments should mean that they are subject to no more than a minimal level of
such risk.
EARLY CLOSING RISK
The normal close of trading in CDS Contracts is 5:00 p.m. (EST). Unanticipated
early closings by the dealer banks may result in a Fund being unable to sell or
buy CDS Contracts on that day. If a dealer bank closes early on a day when an
Fund needs to execute a high volume of securities trades late in the trading
day, the Fund may incur substantial trading losses.
PORTFOLIO HOLDINGS INFORMATION
A description of the Funds' policies and procedures with respect to the
disclosure of the Funds' portfolio securities is available in the SAI.
PORTFOLIO TURNOVER
Portfolio turnover is a measure of the level of trading in portfolio securities
by the Funds, calculated by dividing the lesser of the amount of securities
purchased or sold during a given period by the monthly average of the market
value of the Fund's portfolio securities during the period. In light of the
Funds' objectives of seeking results that correspond generally to the
performance of a particular credit market (or its inverse) and the fact that new
series of CDS Contracts are issued every six months, it is expected that the
Funds will engage in relatively frequent trading of CDS Contracts and have
portfolio turnover rates in excess of 100%. Frequent trading generally will
result in greater transaction costs borne by a Fund. Although no specific
commission or other transaction charge is assessed when a CDS Contract is
entered into, transaction costs may be embedded in the terms of the Contract.
Frequent trading may also cause the Funds to realize higher amounts of
investment gain subject to the payment of taxes by shareholders. Significant
amounts of the Funds' distributions of realized gains likely will be short-term
capital gains, taxable to you at ordinary income rates.
MANAGEMENT
INVESTMENT ADVISER
The Adviser is ETSpreads, LLC, 44 Montgomery Street, Suite 2100, San Francisco,
CA 94104. The Adviser was formed in 2008 for the purpose of serving as
investment adviser to the Funds, and that is currently its sole business
activity. CCM Partners, LP ("CCM"), an affiliate of the Adviser, managed $____
million in investment company assets as of _______, 2008 and has been managing
investment company portfolios since 1985. The investment company portfolios for
which this affiliate acts as investment adviser are mutual funds that are not
operated as ETFs.
The Adviser is responsible for managing the portfolios and administrative
requirements of the Funds. As compensation for managing the Funds, the Adviser
receives a management fee from each Fund that is based on an annual percentage
rate of the Fund's average daily net assets, as shown in the following table:
15
--------------------------------------------------------------------------------
NAME OF FUND MANAGEMENT FEE
--------------------------------------------------------------------------------
ETSpreads High Yield CDS Tighten Fund 0.49%
--------------------------------------------------------------------------------
ETSpreads High Yield CDS Widen Fund 0.49%
--------------------------------------------------------------------------------
ETSpreads Investment Grade CDS Tighten Fund 0.49%
--------------------------------------------------------------------------------
ETSpreads Investment Grade CDS Widen Fund 0.49%
--------------------------------------------------------------------------------
A discussion regarding the basis for the Board of Trustees' approval of the
Investment Advisory Agreement between the Adviser and the Trust with respect to
each Fund will be available in the Funds' semi-annual report to shareholders for
the period from commencement of operations until February 28, 2009, which will
be sent to shareholders in late April, 2009.
PORTFOLIO MANAGERS
William P. Mock, who rejoined CCM as Project Manager in 2007 and is a member of
the Adviser, is the lead member of the portfolio management team for the Funds.
Mr. Mock was the head trader for TKI Capital Management, an investment adviser
to a convertible arbitrage hedge fund, from 2003-2006. From 2001 to 2003 Mr.
Mock was a portfolio manager at CCM, where he served as the portfolio manager or
co-portfolio manager for a number of fixed income funds. Prior to originally
joining CCM in 2001, he gained investment and trading experience at Societe
Generale and Citibank, N.A.. He holds an engineering degree from Kansas State
University and is an honors graduate of the University of Chicago Graduate
School of Business MBA Program, with an emphasis in finance.
Steve Rogers serves as a member of the portfolio management team for the Funds.
Mr. Rogers currently also serves as the portfolio manager or co-portfolio
manager for a number of equity and fixed income funds advised by CCM. He joined
CCM Partners in 1993 and serves as Chief Executive Officer of CCM Partners. Mr.
Rogers graduated from the University of Iowa in 1988 and earned his MBA from the
University of California at Berkeley in 2000.
Matthew T. Clark, who rejoined CCM as Project Manager in 2007 and is a member of
the Adviser, serves as a member of the portfolio management team for the Funds.
Mr. Clark served as a managing member of Ten Lakes Ventures, LLC, from
2003-2007. From 1999 - 2005, Mr. Clark served in various roles at CCM, including
Operations Manager, Accounting and Compliance Officer, Chief Compliance Officer
and Chief Operations Officer. He holds a Bachelor of Science degree with an
emphasis in Finance from the University of Colorado.
ADMINISTRATOR, CUSTODIAN AND TRANSFER AGENT
[ ] ("TBD") serves as administrator, custodian and transfer agent for
the Funds. Its principal address is [ ]. Under the Administration
Agreement with the Trust, TBD performs certain administrative and accounting
services for the Funds and prepares certain SEC reports on behalf of the Trust
and the Funds. In addition, TBD makes available the office space, equipment,
personnel and facilities required to provide such services. Also under the
Administration Agreement, TBD acts as transfer agent for each Fund's authorized
and issued shares of beneficial interest, and as dividend disbursing agent of
the Trust. Under the Custodian Agreement with the Trust, TBD maintains in
separate accounts cash, securities and other assets of each Fund, keeps all
necessary accounts and records, and provides other services. TBD is required,
upon the order of the Trust, to deliver securities held by TBD and to make
payments for securities purchased by the Trust for each Fund. As compensation
for the foregoing services, TBD receives certain out-of-pocket costs,
transaction fees, and asset-based fees which are accrued daily and paid monthly
by the Adviser out of its management fee.
SHAREHOLDER INFORMATION
Additional shareholder information, including how to buy and sell shares of any
Fund, is available free of charge by calling toll-free: 1-800-225-8778 or
visiting our website at http://www.etspreads.com.
BUYING AND SELLING SHARES
Shares of the Funds trade on the NYSE Arca during the trading day and can be
bought and sold throughout the trading day like other shares of publicly traded
securities. There is no minimum investment. Shares are generally purchased and
sold in "round lots" of 100 shares, but investors can purchase or sell shares
in "odd-lots" as small as a single share at no share price differential. When
buying or selling shares of the Funds through a broker, you will incur customary
brokerage commissions and charges.
16
Shares of the Funds may be acquired from or redeemed directly by the Fund only
in Creation Units or multiples thereof, as discussed in the Creations and
Redemptions section. Once created, shares of the Funds generally trade in the
secondary market in amounts less than a Creation Unit.
The Board of Trustees has adopted a policy of not monitoring for frequent
purchases and redemptions of Fund shares ("frequent trading"), including
frequent trading that attempts to take advantage of potential arbitrage
opportunities presented by changes in the value of a Fund's portfolio securities
during the time period between the close of the primary markets for such
portfolio securities and the reflection of those changes in the Fund's net asset
value. Each Fund sells and redeems its shares directly through cash
transactions, with a deadline for placing transaction orders that is prior to
the close of the primary markets for the Fund's portfolio securities. In
addition, frequent trading of Fund shares on the NYSE Arca will not affect the
Funds' cash flows, and therefore will have little potential to affect the
ongoing management of the Funds or their ability to track the performance of the
Underlying Index.
Shares of the Funds trade under the trading symbols listed for each Fund in the
description section of each respective Fund.
The NYSE Arca is generally open Monday through Friday and is closed on weekends
and the following holidays: New Year's Day, Martin Luther King, Jr. Day,
Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor Day,
Thanksgiving Day and Christmas Day. However, Creation Units will be available
for purchase and redemption, and each Fund's net asset value will be calculated,
only on days that (i) the government securities markets in the United States,
(ii) the Funds' custodian (the "Custodian") and (iii) the New York Stock
Exchange and the NYSE Arca are open for business. Therefore, shares of the Funds
will be available for trading on the NYSE Arca on certain federal holidays when
the U.S. government securities markets are closed (as recommended by the
Security Industry and Financial Markets Association), currently Columbus Day and
Veterans' Day, but Creation Units will not be sold and redeemed and each Fund's
net asset value will not be calculated on those days.
Section 12(d)(1) of the Investment Company Act of 1940 restricts investments by
registered investment companies in the securities of other investment companies,
including shares of the Funds. Registered Investment companies are permitted to
invest in the Funds beyond the limits set forth in Section 12(d)(1) subject to
certain conditions set forth in an SEC exemptive order issued to the Trust,
including that such investment companies enter into an agreement with the Trust.
BOOK ENTRY
Shares of the Funds are held in book-entry form, which means that no stock
certificates are issued. The Depository Trust Company ("DTC") or its nominee
is the record owner of all outstanding shares of each Fund and is recognized as
the owner of all shares for all purposes.
Investors owning shares of the Funds are beneficial owners as shown on the
records of DTC or its participants. DTC serves as the securities depository for
all shares of the Funds. Participants include DTC, securities brokers and
dealers, banks, trust companies, clearing corporations and other institutions
that directly or indirectly maintain a custodial relationship with DTC. As a
beneficial owner of shares, you are not entitled to receive physical delivery of
stock certificates or to have shares registered in your name, and you are not
considered a registered owner of shares. Therefore, to exercise any right as an
owner of shares, you must rely upon the procedures of DTC and its participants.
These procedures are the same as those that apply to any other bonds that you
hold in book entry or "street name" form.
SHARE PRICES
The trading prices of shares in the secondary market may differ in varying
degrees from their daily net asset values and can be affected by market forces
such as supply and demand, economic conditions and other factors.
The approximate value of shares of each Fund is disseminated every fifteen
seconds throughout the trading day by the national securities exchange on which
the Fund is listed or by other information providers, such as Bloomberg. This
approximate value should not be viewed as a "real-time" update of the net
asset value, because the approximate value may not be calculated in the same
manner as the net asset value, which is computed once a day. The approximate
value is determined using publicly available data regarding the prices of CDS
Contracts, U.S. Treasury bills and other investments in a Fund's portfolio. The
Funds are not involved in, or responsible for, the calculation or dissemination
of the approximate value and make no warranty as to its accuracy.
17
DETERMINATION OF NET ASSET VALUE
The Custodian calculates the net asset value per share for each Fund as of the
close of regular trading on the NYSE Arca (normally 4:00 p.m. Eastern time) on
each day that (i) the Government Securities markets in the United States, (ii)
the Custodian, and (iii) the New York Stock Exchange and the NYSE Arca are open
for business. The net asset value per share of each Fund is calculated by
dividing the value of the net assets of such Fund (i.e., the value of its total
assets less total liabilities) by the total number of outstanding shares of the
Fund, generally rounded to the nearest cent. In calculating a Fund's net asset
value, a Fund's investments are generally valued using market valuations. In the
event that current market valuations are not readily available or such
valuations do not reflect current market values, the affected investments will
be valued using fair value pricing pursuant to the pricing policy and procedures
approved by the Board of Trustees.
The use of fair value pricing may be appropriate if, for example, (i) market
quotations do not accurately reflect the fair value of an investment; (ii) an
investment's value has been materially affected by events occurring after the
close of the exchange or market on which the investment is principally traded
(for example, a foreign exchange or market); (iii) a trading halt closes an
exchange or market early; or (iv) other events result in an exchange or market
delaying its normal close. Valuing a Fund's investments using fair value pricing
will result in using prices for those investments that may differ from current
market valuations.
DIVIDENDS AND DISTRIBUTIONS
Each Fund earns interest and other income from its investments in Treasury
bills, CDS Contracts and other instruments, and distributes this income (less
expenses) to shareholders as dividends at least quarterly. In addition, each
Fund may realize short-term and long-term capital gains on the sale or other
disposition of its investments. Each Fund will distribute its net realized
long-term and short-term capital gains, if any, to investors annually. Fund
distributions are expected to consist primarily of dividends from net investment
income.
TAXES
As with any investment, you should consider the tax consequences of your
investment in shares of the Funds. The tax information in this Prospectus is
provided as general information. You should consult your own tax advisor about
the tax consequences of an investment in shares of the Funds.
Unless your investment in shares is made through a tax-exempt entity or
tax-deferred retirement account, such as an IRA plan, you need to be aware of
the possible tax consequences when:
o A Fund makes distributions, and
o You sell shares of a Fund.
Taxes on Distributions
----------------------
Distributions from a Fund's net investment income and from a Fund's net
short-term capital gains, if any, are taxable to you as ordinary income.
Distributions by a Fund of net long-term capital gains, if any, in excess of net
short-term capital losses, are taxable as long-term capital gains, regardless of
how long you have held your shares in the Fund. As noted above in the section
entitled "Dividends and Distributions," dividends from net investment income are
expected to make up most of the Funds' distributions.
Dividends will be taxed to individual shareholders at rates higher than
distributions of long-term capital gains, which are currently taxed at a maximum
rate of 15 percent for individuals. Distributions from the Funds are not
expected to qualify for the maximum 15 percent tax rate on certain qualified
dividend income or to qualify for the dividends received deduction for corporate
investors.
In general, your distributions are subject to federal income tax for the year
when they are paid. Certain distributions paid in January, however, may be
treated as paid on December 31 of the prior year.
If you are neither a resident nor a citizen of the United States or if you are a
foreign entity, a Fund's ordinary income dividends (which include distributions
of net short-term capital gains) will generally be subject to a 30% U.S.
withholding tax, unless a lower treaty rate applies. A statutory provision under
which distributions constituting "interest-related dividends" or "short-term
capital gain dividends" were not subject to U.S. withholding tax recently
expired and will not apply unless reenacted by Congress.
If you are a resident or a citizen of the United States, by law, back-up
withholding will apply to your distributions and proceeds if you have not
provided a taxpayer identification number or social security number and made
other required certifications.
18
Taxes When Shares are Sold or Redeemed
--------------------------------------
Currently, any capital gain or loss realized upon a sale or redemption of shares
generally is treated as a long-term gain or loss if the shares have been held
for more than one year. Any capital gain or loss realized upon a sale of shares
held for one year or less is generally treated as a short-term gain or loss,
except that any capital loss on the sale of shares held for six months or less
is treated as long-term capital loss to the extent that capital gain dividends
were paid with respect to such shares.
The foregoing discussion summarizes some of the consequences under current
federal tax law of an investment in a Fund. It is not a substitute for personal
tax advice. You may also be subject to state and local taxation on Fund
distributions and sales of shares. Furthermore, the foregoing discussion assumes
that the Funds will qualify as regulated investment companies under the Code for
each of their taxable years. As discussed above under "Principal Risk Factors
Common to the Funds - Tax Risk," it is not certain that the Funds will so
qualify.
CREATIONS AND REDEMPTIONS
The shares that trade in the secondary market are "created" at net asset value
by market makers, large investors and institutions only in block-size Creation
Units, each of which consists of 100,000 shares or multiples thereof. Each
"creator" enters into an authorized participant agreement (a "Participant
Agreement") with ALPS Distributors, Inc., the Funds' distributor. The Funds only
accept cash to purchase Creation Units.
Similarly, shares can only be redeemed in a specified number of Creation Shares.
Except when aggregated in Creation Units, shares are not redeemable. A creation
or redemption order must be received in a form described in the Participant
Agreement by 2:00 p.m. Eastern time in order to receive that day's closing net
asset value per share. Redemption proceeds will be paid in cash.
Creations and redemptions must be made through a firm that is a DTC participant
and has the ability to clear through the Federal Reserve System. Information
about the procedures regarding creation and redemption of Creation Shares
(including the cut-off times for receipt of creation and redemption orders) is
included in the SAI.
Because new shares may be created and issued on an ongoing basis, at any point
during the life of a Fund a "distribution," as such term is used in the
Securities Act of 1933 (the "Securities Act"), may be occurring.
Broker-dealers and other persons are cautioned that some activities on their
part may, depending on the circumstances, result in their being deemed
participants in a distribution in a manner that could render them statutory
underwriters and subject to the prospectus delivery and liability provisions of
the Securities Act. Nonetheless, any determination of whether one is an
underwriter must take into account all the relevant facts and circumstances of
each particular case.
Broker-dealers should also note that dealers who are not "underwriters," but
are participating in a distribution (as contrasted to ordinary secondary market
transactions), and thus dealing with shares that are part of an "unsold
allotment" within the meaning of Section 4(3)(C) of the Securities Act, would
be unable to take advantage of the prospectus delivery exemption provided by
Section 4(3) of the Securities Act. For delivery of prospectuses to exchange
members, the prospectus delivery mechanism of Rule 153 under the Securities Act
is only available with respect to transactions on a national securities
exchange.
Transaction Fees
----------------
Each Fund may impose a purchase transaction fee and a redemption transaction fee
to offset transfer and other transaction costs associated with the issuance and
redemption of Creation Units of shares. The standard creation and redemption
transaction fees for the Funds are discussed below. The standard creation
transaction fee is charged to each purchaser on the day such purchaser creates
Creation Units. The fee is a single charge and will be the amount indicated
below regardless of the number of Creation Units purchased by an investor on the
same day. The Adviser may from time to time, at its own expense, compensate
purchasers of Creation Units who have purchased substantial amounts of Creation
Units and other financial institutions for administrative or marketing services.
Similarly, the standard redemption transaction fee will be the amount indicated
regardless of the number of Creation Unit redeemed that day. Investors who use
the services of a broker or other such intermediary may pay fees for such
services.
The following table shows, as of ______, 2008, the approximate value of one
Creation Unit per Fund and the standard creation and redemption transaction fee.
19

DISTRIBUTION
ALPS Distributors, Inc. (the "Distributor") is a broker-dealer registered
under the Securities Exchange Act of 1934, as amended (the "Exchange Act").
The Distributor acts on an agency basis and is the "principal underwriter" for
the Trust in connection with the issuance of Creation Units of each Fund. The
Distributor is not an affiliated person of the Trust or the Adviser.
All orders to purchase Creation Shares for each Index Fund must be placed with
the Distributor by or through an entity that has entered into a Participant
Agreement with the Distributor, and it is the responsibility of the Distributor
to transmit such orders to the relevant Fund. The Distributor furnishes to those
placing such orders confirmation that the orders have been accepted, but the
Distributor may reject any order that is not submitted in proper form (i.e.,
where all required information has not been provided to the Distributor or the
procedures for submitting orders set forth in the Participant Agreement have not
been followed).
The Distributor is also responsible for delivering the Prospectus to those
persons creating Creation Units and for maintaining records of both the orders
placed with it and the confirmations of acceptance furnished by it. In addition,
the Distributor will maintain a record of the instructions given to the relevant
Fund to implement the delivery of Creation Units.
The Distributor has no role in determining the policies of any Fund or the
securities that are purchased or sold by any Fund.
DISCLAIMER
EXCHANGE. [obtain from Exchange]
20
TO LEARN MORE
This Prospectus contains important information on the Funds and should be read
and kept for future reference. You can also get more information from the
following sources:
ANNUAL AND SEMI-ANNUAL REPORTS
These are automatically mailed to all shareholders without charge. In the Annual
Report, you will find a discussion of market conditions and investment
strategies that significantly affected each Fund's performance during its most
recent fiscal year.
STATEMENT OF ADDITIONAL INFORMATION
This includes more details about the Funds, including a detailed discussion of
the risks associated with the various investments. The SAI is incorporated by
reference into this Prospectus. This means that the SAI, for legal purposes, is
a part of the Prospectus.
You may obtain a copy of these documents free of charge by calling the Funds at
(800) 225-8778, by accessing the Funds' website at www.etspreads.com, or by
emailing the Funds at info@etspreads.com. These documents and other information
about the Funds can be reviewed and copied at the SEC's Public Reference Room in
Washington, D.C., and information on the operation of the Public Reference Room
may be obtained by calling the SEC at (202) 942-8090. Reports and other
information about the Funds is also available on the EDGAR Database on the SEC's
Internet Site at www.sec.gov, and copies of this information may be obtained by
contacting the SEC at the address noted below or via e-mail at
publicinfo@sec.gov. The SEC may charge you a duplication fee.
EXCHANGE TRADED SPREADS TRUST
P.O. BOX [ ]
SAN FRANCISCO, CA 94104-0387
(800) 225-8778
www.etspreads.com
Securities and Exchange Commission
Washington, DC 20549-0102
SEC File Number 811-22177
The Funds are not bank deposits and are not guaranteed, endorsed or insured by
any financial institution or government entity such as the Federal Deposit
Insurance Corporation (FDIC).
21
EXCHANGE TRADED SPREADS TRUST
ETSPREADS EXCHANGE TRADED FUNDS
STATEMENT OF ADDITIONAL INFORMATION - _______ __, 2008
The Exchange Traded Spreads Trust (the "Trust") is an open-end management
investment company presently consisting of four separate series. This Statement
of Additional Information ("SAI") relates to all of those series: the ETSpreads
High Yield CDS Tighten Fund, the ETSpreads High Yield CDS Widen Fund, the
ETSpreads Investment Grade CDS Tighten Fund, and the ETSpreads Investment Grade
CDS Widen Fund (each, a "Fund" and collectively, the "Funds").
The Prospectus for the Funds dated _________, 2008, as may be amended and/or
supplemented from time to time, provides the basic information you should know
before investing in a Fund, and may be obtained without charge from the Funds at
the above address. This Statement of Additional Information is not a prospectus.
This Statement of Additional Information is intended to provide you with
additional information regarding the activities and operations of the Trust and
each Fund, and should be read in conjunction with the Prospectus.
CONTENTS Page
----
About the Exchange Traded Spreads Trust TBD
About the ETSpreads Exchange Traded Funds TBD
Investments and Risks TBD
Investment Restrictions TBD
Disclosure of Portfolio Holdings TBD
Trustees and Officers TBD
Investment Management and Other Services TBD
Policies Regarding Broker-Dealers Used for Portfolio Transactions TBD
Additional Information Regarding Purchases, Redemptions and Trading
of Fund Shares TBD
Taxation TBD
Dividends and Distributions TBD
Principal Holders of Securities TBD
Miscellaneous Information TBD
Financial Statements TBD
Appendix TBD
1
ABOUT THE EXCHANGE TRADED SPREADS TRUST
The Trust issues its shares of beneficial interest with no par value in
different series, each of which constitutes a Fund. Shares of each Fund
represent equal proportionate interest in the assets of that Fund only, and have
identical voting, dividend, redemption, liquidation and other rights.
Shareholders have no preemptive or other right to subscribe to any additional
shares. The Trust was organized as a Delaware statutory trust on January 17,
2008. Currently, the Trust has four Funds, each of which maintains an entirely
separate investment portfolio. The ETSpreads High Yield CDS Tighten Fund and the
ETSpreads High Yield CDS Widen Fund are referred to herein collectively as the
"HY Funds," and the ETSpreads Investment Grade CDS Tighten Fund and the
ETSpreads Investment Grade CDS Widen Fund are referred to herein collectively as
the "IG Funds." These Funds commenced operations as of the date of this SAI.
The Trust is not required, nor does it intend, to hold annual shareholder
meetings. However, the Trust may hold special meetings for a specific Fund or
for the Trust as a whole for purposes such as electing Trustees, changing
fundamental policies, or approving an investment management agreement. You have
equal rights as to voting and to vote separately by Fund as to issues affecting
only your Fund (such as changes in fundamental investment policies and
objectives). Your voting rights are not cumulative, so that the holders of more
than 50% of the shares voting in any election of Trustees can, if they choose to
do so, elect all of the Trustees. Meetings of shareholders may be called by the
Trustees in their discretion or upon demand of the holders of 10% or more of the
outstanding shares of any fund for the purpose of electing or removing Trustees.
ABOUT THE ETSPREADS EXCHANGE TRADED FUNDS
Each Fund has an investment objective of seeking to provide investment results
that correspond generally, before fees and expenses, to the performance (or the
inverse of such performance) of a particular five-year credit market plus the
return on U.S. Treasury bills. The investment objective of each Fund is
non-fundamental and may be changed without the consent of the holders of a
majority of that Fund's outstanding shares. More specifically, each Fund's
investment objective is as follows:
o ETSpreads High Yield CDS Tighten Fund seeks to provide investment
results that correspond generally, before fees and expenses, to the
performance of the five-year high yield credit market plus the
return on U.S. Treasury bills.
o ETSpreads High Yield CDS Widen Fund seeks to provide investment
results that correspond generally, before fees and expenses, to the
inverse of the price and yield performance of the five-year high
yield credit market plus the return on U.S. Treasury bills.
o ETSpreads Investment Grade CDS Tighten Fund seeks to provide
investment results that correspond generally, before fees and
expenses, to the performance of the five-year investment grade
credit market plus the return on U.S. Treasury bills.
o ETSpreads Investment Grade CDS Widen Fund seeks to provide
investment results that correspond generally, before fees and
expenses, to the inverse of the performance of the five-year
investment grade credit market plus the return on U.S. Treasury
bills.
Each Fund achieves its credit market exposure primarily by entering into credit
default swap contracts ("CDS Contracts") and, under normal market conditions,
will enter into CDS Contracts with respect to Reference Entities with investment
grade (in the case of the IG Funds) or below investment grade (in the case of
the HY Funds) credit ratings with a notional or face value of at least 80% of
its net assets. Normally, such CDS Contracts will include contracts known as
"CDX Contracts." A CDX Contract relates to a large group of Reference Entities.
Each Fund issues and redeems shares on a continuous basis at their net asset
value ("NAV") only in blocks of 100,000 shares, or multiples thereof, with each
such block referred to as a "Creation Unit." Creation Units of a Fund are issued
and redeemed only for cash payment. As a practical matter, only institutions or
large investors are expected to purchase or redeem Creation Units.
Once created, shares of a Fund will be listed for trading in the secondary
market on the NYSE Arca Exchange ("NYSE Arca" or the "Exchange") in amounts less
than a Creation Unit. Market prices for a Fund's shares may be different from
its NAV. For a more detailed discussion, see the "Additional Information
Regarding Purchase, Redemptions and Trading of Fund Shares" section herein. As
in the case of other publicly traded securities, brokers' commissions on
transactions will be based on negotiated commission rates at customary levels.
EXCEPT WHEN AGGREGATED IN CREATION UNITS, SHARES OF EACH FUND ARE NOT REDEEMABLE
SECURITIES.
2
The Trust reserves the right to adjust the share prices of Fund shares in the
future to maintain convenient trading ranges for investors. Any adjustments
would be accomplished through share splits or reverse share splits, which would
have no effect on the net assets of the applicable Fund.
INVESTMENTS AND RISKS
Below is a list of various types of investments that may be made by each Fund
and certain "special considerations" with respect to each Fund. Below the list
is a description of each of these investments and risks listed in the table.
Other than swap agreements and Cash Investments, none of the investments set
forth below are expected to be principal investment strategies of the Funds.
INVESTMENTS
Corporate Bonds
Below Investment Grade Securities
Swap Agreements
Cash Reserves
U.S. Government Securities
Repurchase Agreements
Futures Contracts and Related Options
Illiquid Securities
Other Investment Companies (Money Market Funds)
Lending of Portfolio Securities
SPECIAL CONSIDERATIONS
Borrowing
Non-Diversified Status
Portfolio Turnover
CORPORATE BONDS. As discussed below, the Funds expect to seek substantial
exposure to corporate debt securities through CDS Contracts, and may from time
to time invest directly in such securities. In general, the issuer of a debt
security has a contractual obligation to pay interest at a stated rate on
specific dates and to repay principal (the security's face value) periodically
or on a specified maturity date. Bond prices and yields vary depending on, among
other factors, the credit risk of the bond's issuer and by general changes in
market interest rates. A bond's value usually rises when market interest rates
fall, and falls when market interest rates rise; the bond's value may also rise
when the credit risk of the issuer decreases or is perceived to decrease and
fall when the issuer's credit risk increases or is perceived to increase.
Debt securities are typically rated by nationally recognized statistical rating
organizations ("NRSROs"), whose ratings represent the opinions of the NRSROs on
the quality of the securities. Securities ratings are based largely on the
issuer's historical financial condition and the rating agencies' analysis of the
issuer at the time of the rating. Therefore, while the rating of a security may
change, the rating assigned to any particular security is not necessarily a
reflection on the issuer's current financial condition or ability to make timely
payments of interest and principal, which may be better or worse than the rating
would indicate. In addition, NRSRO ratings do not necessarily reflect an
assessment of the volatility of a security's market value or liquidity. See
Appendix A of this SAI for a summary of the NRSROs' ratings.
BELOW INVESTMENT GRADE SECURITIES. The HY Funds expect to seek substantial
exposure to below investment grade, high yield, fixed income securities
(commonly referred to as "junk bonds") through CDS Contracts, and the Funds may
from time to time invest directly in such securities. Below investment grade
securities generally are subject to greater credit risk than other bonds - i.e.,
there is a greater possibility that adverse changes in the financial condition
of the issuer of the security and/or in general economic conditions will impair
the ability of the issuer to make timely payments of interest and principal.
Because issuers of below investment grade securities are often highly leveraged,
their ability to make timely payments of interest and principal during an
economic downturn or a sustained period of high interest rates may be impaired.
Issuers of below investment grade securities may not have other methods of
financing available to them. Some below investment grade securities are
unsecured or subordinate to the prior payment of senior indebtedness. For these
reasons, among others, the risk of default or failure to timely pay interest and
principal payments is significantly greater for below investment grade
securities.
3
The inability or perceived inability of issuers to make timely payments of
interest and principal can make the values of below investment grade securities
more volatile and can limit a Fund's ability to sell such securities at prices
approximating the values the Fund has placed on such securities. In addition, if
there is not a liquid trading market for below investment grade securities held
by a Fund, it may be difficult for the Fund to establish the fair value of the
securities.
The value of below investment grade securities, like other fixed income
securities, fluctuates in response to changes in market interest rates. A
decrease in interest rates will generally result in an increase in value of
outstanding below investment grade securities, while an increase in interest
rates will generally result in the decline of the value of such investments.
However, below investment grade securities are often affected by changes in
general economic conditions and business conditions affecting the issuers of
such securities and their industries to a greater extent than other fixed income
securities. Negative publicity or investor perceptions may also adversely affect
the value of fixed income securities, including below investment grade
securities.
SWAP AGREEMENTS. Swap agreements are two party contracts entered into primarily
by institutional investors for periods ranging from a few weeks to many years
under which the parties agree to "swap" agreed-upon amounts or rates of return.
In the case of a CDS Contract, the contract gives one party (the protection
buyer) the right to recoup from the other party (the protection seller) the
economic value of a decline in the value of debt securities of the reference
issuer(s) if a credit event (a downgrade or default) occurs. CDX Contracts are a
type of CDS Contract based on an index of Reference Entities. The HY Funds will
typically enter into CDX Contracts relating to 100 North American companies with
below investment grade credit ratings ("CDX.NA.HY Contracts"), whose debt
obligations are sometimes referred to as "high yield" or "junk" bonds, while the
IG Funds will typically enter into CDX Contracts relating to 125 North American
companies with investment grade credit ratings ("CDX.NA.IG Contracts"). The
ETSpreads High Yield CDS Tighten Fund and ETSpreads Investment Grade CDS Tighten
Fund will usually be net sellers of protection under CDS Contracts, and the
ETSpreads High Yield CDS Widen Fund and ETSpreads Investment Grade CDS Widen
Fund will usually be net buyers of protection under CDS Contracts.
The amounts to be exchanged or "swapped" between the parties under a CDS
Contract are generally calculated with respect to a "notional amount," that is,
a hypothetical amount of investment in the securities the exposure to which is
being purchased or sold.
If a Fund is a protection seller, the Fund may be required to pay the par value
of a referenced debt obligation (in the case of a CDX.NA.HY Contract, 1/100 of
the notional value of the contract; in the case of a CDX.NA.IG Contract, 1/125
of the notional value of the contract) to the counterparty in the event of a
default or other credit event by the reference issuer, and would receive the
referenced debt obligation in return. In certain circumstances, however, an
actual exchange of securities for cash may not be required, and the Fund would
merely make a cash payment representing the difference between the par value and
the current market value of the securities. In any event, the Fund would receive
from the counterparty in return a periodic stream of payments over the term of
the contract provided that no event of default has occurred. If no default
occurs, the Fund would keep the stream of payments and would have no payment
obligations. As a protection seller, the Fund would be subject to investment
exposure up to the notional amount of the contract.
If a Fund is a protection buyer, the Fund would have the right to deliver a
referenced debt obligation and receive the par value of such debt obligation
from the counterparty, or simply to receive a cash payment corresponding to this
difference in value, in the event of a default or other credit event by the
reference issuer. In any event, the Fund would pay the counterparty in return a
periodic stream of payments over the term of the contract provided that no event
of default has occurred. If no default occurs, the counterparty would keep the
stream of payments and would have no further obligations to the Fund. In the
case of a CDX Contract, a separate exchange of securities for cash will occur,
or a separate cash payment will be made by the protection seller, with respect
to each underlying obligation that becomes subject to a credit event.
A new series of CDX Contract (sometimes with one or more different Reference
Entities) is established every six months. Entering into a CDX Contract of a
series after CDX Contracts of the same series have begun to be offered requires
the exchange of an up-front payment that relates to difference between the
current market value of the CDX Contract and the initial value of that Contract.
In addition, upon entering a CDX Contract the protection seller pays the accrued
premium from the last payment date to the settlement date in order to receive a
full 90 days of premium on the next payment date.
In the event of a triggering credit event, a CDS Contract could be physically
settled or cash settled, although the Funds generally intend to require cash
settlement under its CDS Contracts. If physically settled, the protection buyer
delivers to the protection seller a face amount of the defaulted security equal
to the original notional value of the CDS Contract (or, in the case of a CDX
Contract, the weighting in the Contract of the security that was the subject of
the credit event), and the protection seller delivers the face amount of such
securities in cash. If the CDS Contract is cash settled, the cash price to be
paid to the seller will generally be determined by an auction conducted under
the guidance of the International Swap and Derivatives Association, Inc.
("ISDA"). After the default of a Reference Entity under a CDX Contract, the
notional value of the Contract held is reduced by the amount of cash delivered
by the protection seller.
4
Because swap agreements are two party contracts and because they may have terms
of greater than seven days, a party's obligations under a CDS Contract may be
considered to be illiquid. However, a Fund will only enter into CDS Contracts
with counterparties that agree to permit the Fund to terminate the contract at
any time upon no more than seven days' notice, and the Funds will generally not
deem their obligations under such Contracts to be illiquid.
The Funds bear counterparty risk in connection with CDS Contracts, i.e., risk of
loss of the amount expected to be received under the contract in the event of
the default or bankruptcy of the counterparty. The Funds will only enter into
CDS Contracts with counterparties that meet their standards of creditworthiness,
standards that are similar to those required of counterparties with which the
Funds may enter into repurchase agreements.
The Funds will segregate assets necessary to meet any accrued payment
obligations to the counterparty when it is a protection buyer under a CDS
Contract. In cases where a Fund is a protection seller, if the Contract is
physically settled, the Fund will be required to segregate the full notional
amount of the Contract. If cash settlement is required under a CDS Contract
where a Fund is a protection seller, the Fund will segregate an amount equal to
its daily marked-to-market obligation (I.E., the Fund's liability under the
Contract as of that day, if any), rather than the full notional amount of the
Contract. By setting aside assets equal to only its net obligation under
cash-settled CDS Contracts, the Funds will have the ability to employ leverage
to a greater extent, although no Fund intends to enter into CDS Contracts with
an aggregate notional value greater than the value of the Fund's total assets.
Obligations under CDS Contracts that are covered as described in this paragraph
will not be construed to be "senior securities" for purposes of the 1940 Act or
the Funds' fundamental investment restriction concerning senior securities.
Certain restrictions imposed on the Funds by the Internal Revenue Code of 1986
(the "Code") may limit the Funds' ability to use swap agreements. The swaps
market is a relatively new market and is largely unregulated. Most swap
agreements are exempt from most provisions of the Commodity Exchange Act ("CEA")
and, therefore, are not regulated as futures or commodity option transactions
under the CEA, pursuant to regulations approved by the Commodity Futures Trading
Commission ("CFTC"). It is possible that developments in the swaps market,
including potential government regulation, could adversely affect the Funds'
ability to terminate existing swap agreements or to realize amounts to be
received under such agreements.
The Funds may enter into interest rate swaps. Interest rate swaps, in their most
basic form, involve the exchange between two parties of their respective
commitments to pay or receive interest. For example, a Fund might exchange its
right to receive certain floating rate payments in exchange for another party's
right to receive fixed rate payments. Interest rate swaps can take a variety of
other forms, such as agreements to pay the net differences between two different
interest indexes or rates, even if the parties do not own the underlying
instruments. Despite their differences in form, the function of interest rate
swaps is generally the same: to increase or decrease a Fund's exposure to long
or short-term interest rates. For example, a Fund may enter into an interest
rate swap transaction to preserve a return or spread on a particular investment
or a portion of its portfolio or to protect against any increase in the price of
securities the Fund anticipates purchasing at a later date.
Interest rate swap agreements calculate the obligations of the parties to the
agreement on a "net basis." Consequently, a Fund's current obligations (or
rights) under a swap agreement will generally be equal only to the net amount to
be paid (or received) under the agreement based on the relative values of the
positions held by each party to the agreement (the "net amount"). The Fund's
current obligations under an interest rate swap agreement will be accrued daily
and offset against any amounts owed to the Fund. Any accrued but unpaid net
amounts owed to a swap counterparty will be covered by the segregation of liquid
assets to avoid any potential leveraging.
The use of interest rate swaps, like other swap agreements, is subject to
certain risks. If a counterparty's creditworthiness declines, the value of the
swap would likely decline. Moreover, there is no guarantee that a Fund could
eliminate its exposure under an outstanding swap agreement by entering into an
offsetting swap agreement with the same or another party.
For purposes of applying the Funds' investment policies and restrictions (as
stated in the Prospectus and SAI), swap agreements are generally valued by a
Fund at market value. The manner in which these instruments are valued by the
Funds for purposes of applying investment policies and restrictions may differ
from the manner in which these investments are valued by other types of
investors.
CASH RESERVES. A Fund may invest all or part of its assets in cash or cash
equivalents to "cover" its potential obligations under derivative positions it
has taken or as a cash reserve for liquidity purposes. Cash equivalents will
consist of U.S. Treasury bills (direct obligations of the United States
government with maturities of one year or less when they are issued), repurchase
agreements secured by U.S. government securities, and money market investment
companies.
5
U.S TREASURY BILLS. As noted above, the Funds may invest in U.S. Treasury bills.
U.S. Treasury bills are backed by the full faith and credit of the United States
Treasury and have initial maturities of one year or less
Yields on U.S. Treasury bills are dependent on a variety of factors, including
the general conditions of the money and bond markets, the size of a particular
offering, and the maturity of the obligation. Like other debt securities, U.S.
Treasury bills with longer maturities tend to produce higher yields but are
generally subject to greater capital price fluctuation than obligations with
shorter maturities and lower yields. Also like other debt securities, the market
value of U.S. Treasury bills generally varies inversely with changes in market
interest rates. An increase in interest rates, therefore, would generally reduce
the market value of the Funds' portfolio investments in U.S. Treasury bills,
while a decline in interest rates would generally increase the market value of
the Funds' investments in these securities. Given the relatively short-term
nature of all U.S. Treasury bills, however, the value of such securities is not
expected to fluctuate substantially in response to changes in market interest
rates.
REPURCHASE AGREEMENTS. A Fund may enter into repurchase agreements with
financial institutions as "cover" for its derivative positions or for liquidity
purposes. Under a repurchase agreement, a Fund purchases a debt security and
simultaneously agrees to sell the security back to the seller at a mutually
agreed-upon future price and date, normally one day or a few days later. The
resale price is greater than the purchase price, reflecting an agreed-upon
market interest rate during the purchaser's holding period. The maturities of
the underlying securities in repurchase transactions may be more than one year,
but the term of each repurchase agreement will normally be much shorter than one
year. The Funds follow certain procedures designed to minimize the risks
inherent in such agreements. These procedures include effecting repurchase
transactions only with large, well-capitalized and well-established financial
institutions whose condition will be continually monitored by the Adviser. In
addition, the value of the collateral underlying the repurchase agreement will
always be at least equal to the repurchase price. In the event of a default or
bankruptcy by a selling financial institution, a Fund could incur certain costs
or delays in connection with seeking to liquidate the collateral and, to the
extent that proceeds from any sale upon a default on a repurchase agreement were
less than the repurchase price, could suffer a loss. In these circumstances, a
Fund also may lose the interest it expected to receive under the repurchase
agreement. Repurchase agreements usually are for short periods, but may be
longer. It is the current policy of each Fund not to invest in repurchase
agreements that do not mature within seven days if any such investment, together
with any other illiquid assets held by the Fund, amounts to more than 15% of the
Fund's net assets. No Fund will invest in repurchase agreements in excess of 5%
of its total assets.
FUTURES CONTRACTS AND RELATED OPTIONS. The Funds may purchase or sell index
futures contracts and options thereon as a substitute for a comparable market
position in CDS Contracts or the securities underlying the futures contracts. A
futures contract generally obligates the seller to deliver (and the purchaser to
take delivery of) the specified commodity on the expiration date of the
contract. An index futures contract obligates the seller to deliver (and the
purchaser to take) an amount of cash equal to a specific dollar amount (the
contract multiplier) multiplied by the difference between the final settlement
price of a specific stock index futures contract and the price at which the
agreement is made. No physical delivery of the underlying stocks in the index is
made.
A Fund will generally choose to engage in closing or offsetting transactions
before final settlement wherein a second identical futures contract is sold to
offset a long position (or bought to offset a short position). In such cases the
obligation is to deliver (or take delivery of) cash equal to a specific dollar
amount (the contract multiplier) multiplied by the difference between price of
the offsetting transaction and the price at which the original contract was
entered into. If the original position entered into is a long position (futures
contract purchased) there will be a gain (loss) if the offsetting sell
transaction is carried out at a higher (lower) price, inclusive of commissions.
If the original position entered into is a short position (futures contract
sold) there will be a gain (loss) if the offsetting buy transaction is carried
out at a lower (higher) price, inclusive of commissions. The Funds may engage in
comparable closing transactions with respect to options on futures contracts.
Whether a Fund realizes a gain or loss from futures activities depends generally
upon movements in the underlying commodity. The extent of a Fund's loss from an
unhedged short position in futures contracts is potentially unlimited. The Funds
intend only to engage in transactions in futures contracts that are traded on a
U.S. exchange or board of trade or that have been approved for sale in the
United States by the CFTC.
Each Fund intends to use futures and related options in accordance with Rule 4.5
under the Commodity Exchange Act ("CEA"). The Trust, on behalf of each Fund, has
filed a notice of eligibility for exclusion from the definition of the term
"commodity pool operator" ("CPO") in accordance with Rule 4.5 so that each Fund
is not subject to CPO registration and regulation under the CEA.
6
When a Fund purchases or sells an index futures contract, or sells an option
thereon, the Fund must "cover" its position. To cover its position, the Fund may
enter into an offsetting position or segregate with its custodian on the books
and records of the Fund, cash or liquid instruments that, when added to any
amounts deposited with a futures commission merchant as margin, are equal to the
market value of the futures contract. Such market value is determined on a daily
basis, and any necessary changes to the amount of assets segregated will also be
made on a daily basis.
A Fund may cover its long position in a futures contract by taking a short
position in the instruments underlying the futures contract, or by taking
positions in instruments whose prices are expected to move relatively
consistently with the futures contract. A Fund may cover its short position in a
futures contract by taking a long position in the instruments underlying the
futures contract, or by taking positions in instruments whose prices are
expected to move relatively consistently inverse to the futures contract. A Fund
could also cover its short position in a futures contract by purchasing a call
option on the same futures contract with a strike price (i.e., an exercise
price) as low or lower than the price of the futures contract, or, if the strike
price of the call is greater than the price of the futures contract, the Fund
will segregate cash or liquid instruments equal in value to the difference
between the strike price of the call and the price of the future.
A Fund may cover its sale of a call option on a futures contract by taking a
long position in the underlying futures contract at a price less than or equal
to the strike price of the call option, or, if the long position in the
underlying futures contract is established at a price greater than the strike
price of the written (sold) call, the Fund will segregate liquid assets equal in
value to the difference between the strike price of the call and the price of
the future. A Fund may also cover its sale of a call option by taking positions
in instruments the prices of which are expected to move relatively consistently
with the call option. A Fund may cover its sale of a put option on a futures
contract by taking a short position in the underlying futures contract at a
price greater than or equal to the strike price of the put option, or, if the
short position in the underlying futures contract is established at a price less
than the strike price of the written put, the Fund will segregate liquid assets
equal in value to the difference between the strike price of the put and the
price of the future. A Fund could also cover its sale of a put option by taking
positions in instruments whose prices are expected to move relatively
consistently with the put option.
Although the Funds intend to purchase or sell futures contracts only if there is
an active market for such contracts, no assurance can be given that a liquid
market will exist for any particular contract at any particular time. Many
futures exchanges and boards of trade limit the amount of fluctuation permitted
in futures contract prices during a single trading day. Once the daily limit has
been reached in a particular contract, no trades may be made that day at a price
beyond that limit or trading may be suspended for specified periods during the
day. Futures contract prices could move to the limit for several consecutive
trading days with little or no trading, thereby preventing prompt liquidation of
futures positions and potentially subjecting the Fund to substantial losses. If
trading is not possible, or if the Adviser determines not to close a futures
position held by a Fund, the Fund will be required to make daily cash payments
of variation margin. The risk that the Fund will be unable to close out a
futures position will be minimized by entering into such transactions on a
national securities exchange with an active and liquid secondary market.
A Fund will not enter into a futures contract or related option (except for
closing transactions) if, immediately thereafter, the value of the face amount
of the open futures contracts and options thereon would exceed 5% of the Fund's
total assets.
ILLIQUID SECURITIES. The Funds may purchase illiquid securities, including
securities that are not readily marketable and securities that are not
registered ("restricted securities") under the Securities Act of 1933, as
amended ("Securities Act"). A Fund will not invest more than 15% of its net
assets in illiquid securities. The term "illiquid securities" for this purpose
means securities that cannot be disposed of within seven days in the ordinary
course of business at approximately the amount at which the Fund has valued the
securities. Under the current guidelines of the staff of the Commission,
illiquid securities also are considered to include, among other securities,
repurchase agreements with maturities in excess of seven days. A Fund may not be
able to sell illiquid securities when the Adviser considers it desirable to do
so or may have to sell such securities at a price that is lower than the price
that could be obtained if the securities were more liquid. In addition, the sale
of illiquid securities also may require more time and may result in higher
dealer discounts and other selling expenses than does the sale of securities
that are not illiquid. Illiquid securities also may be more difficult to value
due to the unavailability of reliable market quotations for such securities, and
investments in illiquid securities may have an adverse impact on net asset
value.
7
Institutional markets for restricted securities have developed as a result of
the promulgation of Rule 144A under the Securities Act, which provides a safe
harbor from Securities Act registration requirements for qualifying sales to
institutional investors. When Rule 144A securities present an attractive
investment opportunity and otherwise meet selection criteria, a Fund may make
such investments. Whether or not such a security is illiquid for purposes of the
15% restriction is a question of fact depending, among other matters, on the
readily-available trading markets for the security and any applicable
contractual restrictions on transfer. While the Trust's Board of Trustees (the
"Board") retains ultimate responsibility for these liquidity determinations, the
Board has adopted guidelines pursuant to which the Adviser makes these
determinations on a day-to-day basis. It is not possible to predict with
assurance exactly how the market for Rule 144A restricted securities or any
other security will develop. A security that when purchased enjoyed a fair
degree of marketability and, accordingly, was deemed to be liquid may
subsequently become illiquid.
OTHER INVESTMENT COMPANIES. The Funds may invest in the securities of money
market mutual funds, which are investment companies registered under the 1940
Act, to the extent that such an investment would be consistent with the
requirements of the 1940 Act and the rules thereunder. If a Fund invests in and,
thus, is a shareholder of another investment company, the Fund's shareholders
will indirectly bear the Fund's proportionate share of the fees and expenses
paid by such other investment company (including advisory fees and brokerage,
shareholder servicing, and other operational expenses), in addition to both the
advisory fees payable directly by the Fund to the Adviser and the other expenses
that the Fund bears directly in connection with its own operations. Shareholders
of the Funds would then indirectly pay higher operational costs than if they
owned shares of the underlying investment companies directly.
Investing in other investment companies involves substantially the same risks to
a Fund as investing directly in the investments of the underlying investment
companies. Accordingly, if a Fund invests in a money market fund, the Fund will
be subject to the limited credit, interest rate and other risks associated with
the investments held by the money market fund. Under the 1940 Act, a Fund
generally may not acquire securities of any one investment company if,
immediately thereafter, the Fund would own more than 3% of such company's total
outstanding voting securities, securities issued by such company would have an
aggregate value in excess of 5% of the Fund's assets, or securities issued by
such company and securities held by the Fund issued by other investment
companies would have an aggregate value in excess of 10% of the Fund's assets.
However, an exemptive rule under the 1940 Act permits the Funds to invest in
money market funds in excess of the above limits subject to certain conditions.
LENDING OF PORTFOLIO SECURITIES. Subject to the investment restrictions set
forth below, the Funds may lend portfolio securities to brokers, dealers, and
financial institutions, provided that cash equal to at least 100% of the market
value of the securities loaned is deposited by the borrower with the Fund and is
maintained each business day in a segregated account pursuant to applicable
regulations. While such securities are on loan, the borrower will pay the
lending Fund any income accruing thereon, and the Fund may invest the cash
collateral in portfolio securities, thereby earning additional income. A Fund
will not lend more than 33 1/3% of the value of its total assets. Loans will be
subject to termination by the lending Fund on no more than four business days'
notice, or by the borrower on one day's notice. Borrowed securities must be
returned when the loan is terminated. Any gain or loss in the market price of
the borrowed securities which occurs during the term of the loan inures to the
lending Fund and that Fund's shareholders. There may be risks of delay in
receiving additional collateral or risks of delay in recovery of the securities
or even loss of rights in the securities lent should the borrower of the
securities fail financially. A Fund may pay reasonable finders, borrowers,
administrative, and custodial fees in connection with a loan.
SPECIAL CONSIDERATIONS
To the extent discussed above and in the prospectus, investing in the Funds
presents certain risks, some of which are further described below.
BORROWING. The Funds may borrow money for cash management purposes. Interest
costs on borrowings may fluctuate with changing market rates of interest. Under
adverse conditions, the Fund might have to sell portfolio securities to meet
interest or principal payments at a time when investment considerations would
not favor such sales.
As required by the 1940 Act, a Fund must maintain continuous asset coverage
(total assets, including assets acquired with borrowed funds, less liabilities
exclusive of borrowings) of 300% of all amounts borrowed. If at any time the
value of a Fund's assets should fail to meet this 300% coverage test, the Fund,
within three days (not including Sundays and holidays), will reduce the amount
of its borrowings to the extent necessary to meet this 300% coverage.
Maintenance of this percentage limitation may result in the sale of portfolio
securities at a time when investment considerations would not favor such sale.
In addition to the foregoing, the Funds are authorized to borrow money as a
temporary measure for extraordinary or emergency purposes in amounts not in
excess of 5% of the value of the Fund's total assets. This borrowing is not
subject to the foregoing 300% asset coverage requirement. The Funds are
authorized to pledge portfolio securities as the Adviser deems appropriate in
connection with any borrowings.
8
NON-DIVERSIFIED STATUS. The Funds are "non-diversified" funds. A fund is
considered "non-diversified" because a relatively high percentage of the fund's
assets may be invested in the securities of a limited number of issuers. That
fund's portfolio securities, therefore, may be more susceptible to any single
economic, political, or regulatory occurrence than the portfolio securities of a
more diversified investment company. The Funds may not be deemed to meet the
requirements to be considered "diversified" investment companies under the 1940
Act because they normally will enter into CDS Contracts with a limited number of
counterparties. However, the Funds normally would be diversified in terms of
their exposure to the credit risk of a broad range of underlying obligations
under such Contracts. In addition, each Fund intends to seek to qualify as a
"regulated investment company" for purposes of the Code, which imposes
diversification requirements on a Fund that are less restrictive than the
requirements applicable to the "diversified" investment companies under the 1940
Act. (See the "Taxation" section of this SAI.)
PORTFOLIO TURNOVER. "Portfolio turnover rate" is defined under the rules of the
Commission as the value of the securities purchased or securities sold,
excluding all securities whose maturities at time of acquisition were one year
or less, divided by the average monthly value of such securities owned during
the year. Each Fund's portfolio turnover rate will, to some extent, depend on
the purchase, redemption, and exchange activity of the Fund's investors.
Consequently, it is difficult to estimate what a Fund's actual portfolio
turnover rate will be in the future. However, each Fund is expected to buy and
sell CDX Contracts frequently to maintain exposure to the most recently issued
or "on-the-run" Contract. Such frequent trading will likely involve
correspondingly greater transaction and other expenses that will be borne by the
Funds. In addition, a Fund's level of trading may adversely affect the ability
of the Fund to achieve its investment objective.
INVESTMENT RESTRICTIONS
The Trust has adopted the following restrictions as "fundamental" policies of
each Fund, which means that the restrictions may not be changed without the vote
of a majority of the outstanding voting securities of that Fund. Under the 1940
Act, a "vote of a majority of the outstanding voting securities" of the Trust or
of a particular Fund means the affirmative vote of the lesser of (l) more than
50% of the outstanding shares of the Trust or of such Fund, or (2) 67% or more
of the shares of the Trust or of such Fund present at a meeting of shareholders
if more than 50% of the outstanding shares of the Trust or of such Fund are
represented at the meeting in person or by proxy. A Fund may not:
1. Borrow money except to the extent permitted by the Investment Company Act of
1940 or the rules or regulations thereunder, as such statute, rules or
regulations may be amended from time to time, or by regulatory guidance or
interpretations of such statute, rules or regulations.
2. Make loans, except (a) through the purchase of debt securities which are
either publicly distributed or customarily purchased by institutional investors,
(b) to the extent that the entry into a repurchase agreement or swap agreement
may be deemed a loan, (c) to lend portfolio securities to the extent permitted
by law.
3. Act as underwriter of securities issued by other persons except insofar as a
Fund may be technically deemed an underwriter under the federal securities laws
in connection with the disposition of portfolio securities.
4. Own securities as of the end of each calendar quarter (other than a U.S.
government security or a security of an investment company) such that: (1) with
respect to 50% of its assets, more than 5% of a Fund's total assets is invested
in the securities of any single issuer; (2) with respect to 50% of its assets,
the Fund owns more than 10% of the outstanding securities of any single issuer;
or (3) more than 25% of the Fund's total assets is invested in the securities of
any single issuer.
5. Concentrate its investments (i.e., invest 25% or more of its total assets in
the securities of a particular industry or group of industries), except that a
Fund may concentrate to approximately the same extent that a CDX Contract or
other CDS Contract based on a basket of Reference Entities concentrates in the
securities of Reference Entities in such particular industry or group of
industries. For purposes of this limitation, securities of the U.S. government
(including its agencies and instrumentalities), repurchase agreements
collateralized by U.S. government securities, and securities of state or
municipal governments and their political subdivisions are not considered to be
issued by members of any industry. Furthermore, for purposes of this limitation,
the industries of which the Reference Entities under CDS Contracts are members,
and not the industries of CDS Contract counterparties, will be considered.
6. Purchase or sell commodities or commodity contracts; provided, however, that
a Fund may invest in futures contracts as described in the Prospectus and this
SAI.
7. Acquire, lease or hold real estate, except such as may be necessary or
advisable for the maintenance of its offices, and provided that this limitation
shall not prohibit the purchase of securities secured by real estate or of
issuers involved in real estate activities.
8. Issue senior securities, as defined in the 1940 Act, except that this
restriction shall not be deemed to prohibit a Fund from (a) making any permitted
borrowings, mortgages or pledges, and (b) entering into permissible repurchase,
futures, and swap transactions.
9
Except with respect to restriction 4 above, if a percentage restriction is
adhered to at the time of investment, a subsequent increase or decrease in a
percentage resulting from a change in the values of assets will not constitute a
violation of that restriction.
As to restriction 8 above, the 1940 Act generally prohibits investment companies
from issuing senior securities, except that borrowing money is permitted under
certain circumstances and subject to certain limits. (See the Section of this
SAI entitled "Borrowing" and restriction 1 above.) Under the 1940 Act, a "senior
security" is defined in the 1940 Act as any bond, debenture, note or similar
obligation or instrument constituting a security and evidencing indebtedness,
and any stock of a class having priority over any other class as to distribution
of assets or payment of dividends. The SEC has taken the position that an
investment company that enters into certain derivative instruments, such as CDS
Contracts and futures contracts, will not be deemed to be issuing senior
securities provided that liquid assets of the investment company sufficient to
cover the company's obligations under such instruments are segregated on the
books of the company.
DISCLOSURE OF PORTFOLIO HOLDINGS
The Board has adopted a policy regarding the disclosure of the Funds' portfolio
holdings information that requires that such information be disclosed in a
manner that: (a) is consistent with applicable legal requirements and in the
best interests of each Fund's respective shareholders; (b) does not put the
interests of the Adviser, the Funds' distributor (the "Distributor"), or any
affiliated person of the Trust, the Adviser or the Distributor, above those of
Fund shareholders; (c) does not advantage any current or prospective Fund
shareholders over any other current or prospective Fund shareholders, except to
the extent that certain Entities (as defined below) may receive portfolio
holdings information not available to other current or prospective Fund
shareholders in connection with the dissemination of information necessary for
transactions in Creation Units, as contemplated by the ETSpreads Exemptive Order
(also as defined below); and (d) does not provide selective access to portfolio
holdings information except pursuant to the procedures outlined below and to the
extent appropriate confidentiality arrangements limiting the use of such
information are in effect. The "Entities" referred to in sub-section (c) above
include National Securities Clearing Corporation ("NSCC") members and
subscribers to various fee-based subscription services, including those large
institutional investors (known as "Authorized Participants") that have been
authorized by the Distributor to purchase and redeem Creation Unit aggregations
of Fund shares, and other institutional market participants and entities that
provide information services. The ETSpreads Exemptive Order is the exemptive
order granted by the SEC pursuant to which the Funds may offer and redeem their
shares only in Creation Unit aggregations.
Each business day, Fund portfolio holdings information will be provided to the
Distributor or other agent for dissemination through the facilities of the NSCC
and/or other fee-based subscription services to NSCC members and/or subscribers
to those other fee-based subscription services, including Authorized
Participants, and to entities that publish and/or analyze such information in
connection with the process of purchasing or redeeming Creation Units or trading
shares of the Funds in the secondary market. This information typically reflects
each Fund's holdings, including the specific types and notional amounts of any
CDS Contracts, as of the end of the prior business day. In addition,
substantially similar information about the Funds' holdings will ordinarily be
made publicly available daily on the website of the Trust and/or the Exchange.
TRUSTEES AND OFFICERS
The Board has the responsibility for the overall management of the Trust,
including general supervision and review of the Funds' investment activities.
The Board elects the officers of the Trust who are responsible for administering
the day-to-day operations of the Trust and its Funds. The affiliations of the
officers and Trustees and their principal occupations for the past five years
are listed below. Trustees who are deemed to be an "interested person" of the
Trust, as defined in the 1940 Act, are indicated by an asterisk (*).

Number of
Portfolios in Other
Fund Complex Directorships
Position(s) with Principal Occupation within Overseen by Held by
Name and Address Date of Birth the Trust(1) the Past Five Years Trustee(2) Trustee(3)
---------------- ------------- ------------ ------------------- ---------- ----------
*Stephen C. Rogers 06/27/66 Trustee since 2008 Chief Executive Officer, CCM 16 None
P.O. Box 387 Partners, 1999 to present.
San Francisco, CA 94104

10

Number of
Portfolios in Other
Fund Complex Directorships
Position(s) with Principal Occupation within Overseen by Held by
Name and Address Date of Birth the Trust(1) the Past Five Years Trustee(2) Trustee(3)
---------------- ------------- ------------ ------------------- ---------- ----------

(1) Each trustee holds office for an indefinite term until the earlier of (i)
the election of his successor or (ii) the date the trustee dies, resigns
or is removed.
(2) The Fund Complex includes funds with a common investment adviser or
affiliated advisers. Currently, the Fund Complex consists of the Funds and
the series of California Investment Trust.
(3) Directorships of companies required to report to the SEC under the
Securities Exchange Act of 1934 (i.e., "public companies") or investment
companies registered under the 1940 Act (other than funds in the Fund
Complex).
Currently, the Board has an Audit Committee and a Pricing Committee. The
responsibilities of each committee and its members are described below.
AUDIT COMMITTEE. The Board has an Audit Committee comprised only of the
Independent Trustees (currently, [ ]). The Audit Committee has the
responsibility, among other things, to (1) recommend the selection of the Funds'
independent auditors; (2) review and approve the scope of the independent
auditors' audit activity; (3) review the financial statements which are the
subject of the independent auditor's certifications; (4) review with such
independent auditors the adequacy of the Funds' basic accounting system and the
effectiveness of the Funds' internal accounting controls; and (5) review and
approve any non-audit services provided by the independent auditors.
PRICING COMMITTEE. The Board has a Pricing Committee, comprised of one Trustee
of the Trust and certain officers of the Trust and of the Adviser. The Pricing
Committee is responsible for determining the fair value of Fund securities as
needed in accordance with the pricing policies adopted by the Board and
performing such other tasks as the Board deems necessary. The Pricing Committee
meets on an ad hoc basis to discuss issues relating to the valuation of
securities held by the Funds. Committee members are required to report actions
taken at their meetings at the next scheduled Board meeting following the
Pricing Committee's meeting.
The Adviser pay the fees of the Trustees who are not affiliated with the
Adviser, which are currently $____ per quarter and $___ for each meeting
attended. [ ] is compensated $_____ annually for his services as Audit Committee
Chair. The following table sets forth the estimated compensation to be paid by
the Adviser projected through the end of the Trust's first fiscal ended [ ].

The following tables set forth the dollar range of shares held in each Fund by
each Trustee, and the aggregate holdings of each Trustee in all funds in the
"family of investment companies" (the Trust and the California Investment
Trust), as of December 31, 2007:

11
INVESTMENT MANAGEMENT AND OTHER SERVICES
MANAGEMENT SERVICES. The Adviser is ETSpreads, LLC, a California limited
liability company. The Adviser serves as the investment adviser to the Funds
pursuant to the Investment Advisory Agreement dated ________, 2008, between the
Trust on behalf of each of the Funds and the Adviser (the "Agreement"). The
managing member of the Adviser is CCM Partners, LP ("CCM"). CCM is controlled by
a privately held partnership, RFS Partners, LP, which in turn is controlled by a
family trust of which Mr. Stephen C. Rogers is a co-trustee.
Pursuant to the Agreement, the Adviser supplies investment research and
portfolio management, including the selection of CDS Contracts for the Funds to
enter into and terminate and other securities for the Funds to purchase, hold,
or sell and the selection of brokers or dealers through whom the portfolio
transactions of each Fund are executed. The Adviser's activities are subject to
review and supervision by the Board to whom the Adviser renders periodic reports
of the Funds' investment activities.
The Agreement also provides that the Adviser will pay all operating expenses of
each Fund except interest expense and taxes, any brokerage expenses, future
distribution fees or expenses and extraordinary expenses.
For the Adviser's services, each Fund pays a monthly fee computed at the annual
rates shown in the table below:
FUNDS MANAGEMENT FEE PER ANNUM
----- ------------------------
ETSpreads High Yield CDS Tighten Fund 0.49%
ETSpreads High Yield CDS Widen Fund 0.49%
ETSpreads Investment Grade CDS Tighten Fund 0.49%
ETSpreads Investment Grade CDS Widen Fund 0.49%
The Agreement is currently in effect until __________, 2010, and will be in
effect thereafter only if it is renewed for each Fund for successive periods not
exceeding one year by (i) the Board or a vote of a majority of the outstanding
voting securities of each Fund, and (ii) a vote of a majority of the Trustees
who are not parties to the Agreement or an interested person of any such party
(other than as a Trustee), cast in person at a meeting called for the purpose of
voting on such Agreement.
The Agreement may be terminated without penalty at any time by the Trust with
respect to any Fund (either by the applicable Board or by a majority vote of the
terminating Fund's outstanding shares). The Agreement may also be terminated by
the Adviser on 60-days' written notice and will automatically terminate in the
event of its "assignment" as defined in the 1940 Act.
PORTFOLIO MANAGERS. The table below includes details about the type, number, and
assets under management for the various types of accounts, and total assets in
the accounts with respect to which the advisory fee is based on the performance
of the accounts that the Funds' portfolio managers ("PMs") managed as of
_______, 2008.

POTENTIAL CONFLICTS. Individual PMs manage multiple Funds of the Trust, and may
manage other funds advised by the Adviser and CCM. The Adviser and its
affiliates manage potential conflicts between funds through allocation policies
and procedures, internal review processes, including, but not limited to reports
and oversight by management. The Adviser and its affiliates have developed trade
allocation systems and controls to help ensure that no one fund, regardless of
type, is intentionally favored at the expense of another. Allocation policies
are designed to address potential conflicts in situations where two or more
funds participate in investment decisions involving the same securities.
PORTFOLIO MANAGER SECURITIES OWNERSHIP. The table below identifies the dollar
range of shares of each Fund beneficially owned by each PM, as of __________,
2008.

COMPENSATION. Compensation of the PMs includes a base salary, cash bonus, and a
package of employee benefits that are generally available to all salaried
employees. Compensation is structured to emphasize the success of the Adviser
rather than that of any one individual. The Adviser does not have any "incentive
compensation" or "deferred compensation" programs for the PMs. Compensation is
not linked to the distribution of Fund shares. Each element of compensation is
detailed below:
BASE SALARY. PMs are paid a fixed base salary that is intended to be competitive
in light of each PM's experience and responsibilities.
BONUS. Bonus payments are based on a number of factors including the
profitability of the Adviser and the employee's long-term contributions.
Full-time employees of the Adviser with at least one year of tenure participate
in the annual bonus program. Bonuses are not linked to the amount of assets
managed or to measurements of relative or absolute investment returns.
OWNERSHIP INTERESTS. Messrs. Mock and Clark are each members of and hold
ownership interests in the Adviser. Mr. Rogers holds an indirect ownership
interest in the Adviser through CCM, the Adviser's managing member. The Adviser
may provide pass-through income of its profits and annual cash distributions
based on each member's proportionate profit sharing interest. Distributions are
generally determined based on considerations of the Adviser's working capital
requirements and on estimated tax liabilities associated with pass-through
income.
EMPLOYEE BENEFIT PROGRAM. PMs participate in benefit plans and programs
available generally to all employees, which includes a qualified,
defined-contribution profit sharing plan and company match.
13
The above information regarding compensation of PMs is current as of __________,
2008.
CODE OF ETHICS. The Trust and the Adviser have adopted a Code of Ethics pursuant
to Section 17(j) of the 1940 Act and Rule 17j-1 thereunder (and Rule 204A-1
under the Investment Advisers Act of 1940, as amended). Currently, the Code of
Ethics prohibits "access persons" as defined in the Code of Ethics from buying
or selling securities for their own individual accounts if any such purchase or
sale would represent both $50,000 or more and 1,000 or more shares, and if the
securities at the time of such purchase or sale (i) are being considered for
purchase or sale by a fund advised by the Adviser (except for funds such as the
Funds that seek to match the performance of an index (the "Index Funds")) (ii)
have been purchased or sold by a fund (except the Index Funds) within the most
recent seven (7) days if such person participated in the recommendation to, or
the decision by, the fund to purchase or sell such security (except the Index
Funds). There are limited exceptions to these prohibitions on access persons
buying or selling securities for their own account (e.g., purchases that are
part of an automatic dividend reinvestment plan). The Code of Ethics also
requires access persons to report personal holdings to the Trust or the Adviser
on an annual basis and to report personal securities transactions to the Trust
or the Adviser on a quarterly basis.
PROXY VOTING POLICIES AND PROCEDURES. The Board has delegated to the Adviser the
authority to vote proxies of companies held in the Funds' portfolios. The
Adviser intends to apply its pre-determined proxy voting guidelines ("Voting
Guidelines") when voting proxies on behalf of the Funds. Because the Funds
invest almost exclusively in securities and other instruments that do not carry
voting rights, the Adviser expects to vote proxies on securities held by the
Funds only rarely, if at all.
The Adviser recognizes that an investment adviser is a fiduciary that owes its
clients, including the Funds, a duty of utmost good faith and full and fair
disclosure of all material facts. An investment adviser's duty of loyalty
requires an adviser to vote proxies in a manner consistent with the best
interest of its clients and precludes the adviser from subrogating the clients'
interests to its own. In addition, an investment adviser voting proxies on
behalf of a fund must do so in a manner consistent with the best interests of
the fund and its shareholders. The Board, in conjunction with the Adviser, seeks
to balance the benefits of voting the proxies against the associated costs to
the shareholders. The Board will review the Voting Guidelines, and any votes on
securities held by the Funds under such Voting Guidelines, at least annually.
The Adviser seeks to avoid material conflicts of interest by voting in
accordance with the Voting Guidelines in an objective and consistent manner
across client accounts, based on internal and external research and
recommendations provided by a third party vendor, and without consideration of
any relationship that the Adviser may have with the issuer. Further, the Adviser
may engage a third party as an independent fiduciary to vote all proxies of the
Funds, and may engage an independent fiduciary to vote proxies of other issuers
at its discretion.
All proxies received by the Funds are reviewed, categorized, analyzed and voted
in accordance with the Voting Guidelines. The guidelines are reviewed
periodically and updated as necessary to reflect new issues and any changes in
the Adviser's views on specific issues. Items that can be categorized under the
Voting Guidelines are voted in accordance with the Voting Guidelines' provisions
as to that category of items.
Proposals that cannot be categorized under the Voting Guidelines and raise a
material conflict of interest between the Adviser and a Fund are referred to the
Board. Specifically, the Adviser will disclose the conflict to the Board and
obtain its consent to the proposed vote in question prior to voting the
securities. The disclosure to the Board will include sufficient detail regarding
the matter to be voted on and the nature of the Adviser's conflict so that the
Board would be able to make an informed decision regarding the vote. When the
Board does not respond to such a conflict disclosure request or rejects a
proposed vote, the Adviser will abstain from voting the securities held by the
Fund.
With regard to voting proxies of foreign companies, the Adviser weighs the cost
of voting and potential inability to sell the securities (which may arise during
the voting process) against the benefit of voting the proxies to determine
whether or not to vote. With respect to securities lending transactions, the
Adviser seeks to balance the economic benefits of continuing to participate in
an open securities lending transaction against the inability to vote proxies on
the lent securities.
When evaluating proposals, the Adviser recognizes that the management of a
publicly-held company may need protection from the market's frequent focus on
short-term considerations, so as to be able to concentrate on such long-term
goals as productivity and development of competitive products and services. In
addition, the Adviser generally supports proposals designed to provide
management with short-term insulation from outside influences so as to enable
them to bargain effectively with potential suitors to the extent such proposals
are discrete and not bundled with other proposals. The Adviser believes that a
shareholder's role in the governance of a publicly-held company is generally
limited to monitoring the performance of the company and its management and
voting on matters which properly come to a shareholder vote. However, the
Adviser generally opposes proposals designed to insulate an issuer's management
unnecessarily from the wishes of a majority of shareholders. Accordingly, the
Adviser generally votes in accordance with management when it believes, in its
sole discretion, that management's position neither unduly limits the rights and
privileges of shareholders nor adversely affects the value of the Funds'
investment.
14
Information regarding how the Funds voted proxies relating to portfolio
securities during each 12-month period ended June 30 will be available without
charge (1) by calling the Funds at (800) 225-8778, or (2) on the SEC's website
at http:///www.sec.gov.
PRINCIPAL UNDERWRITER. ALPS Distributors, Inc. (the "Distributor"), a
broker-dealer registered under the Securities Exchange Act of 1934 and a member
of the Financial Industry Regulatory Authority, is currently the principal
underwriter of each Fund's shares under an underwriting agreement with the
Trust, pursuant to which the Distributor agrees to act as each Fund's
distribution agent. Each Fund's shares are offered through the Distributor only
in Creation Unit Aggregations, and on a best efforts basis in a continuous
offering without a sales load or other commission or compensation. Shares of the
Funds in less than Creation Unit Aggregations are not distributed by the
Distributor. The Distributor will deliver the Funds' Prospectus and, upon
request, the Statement of Additional Information to persons purchasing Creation
Unit Aggregations and will maintain records of both orders placed with it and
confirmations of acceptance furnished by it.
OTHER SERVICES. [ ] (the "Administrator") acts as the shareholder
servicing agent for the Trust and acts as the Trust's transfer and
dividend-paying agent. In such capacities the Administrator performs many
services, including determining the Funds' net asset values, bookkeeping and
shareholder record-keeping.
[ ] (the "Custodian") acts as custodian of the securities and other
assets of the Trust. The Custodian does not participate in decisions relating to
the purchase and sale of portfolio securities. Under the custodian agreement,
the Custodian (i) maintains a separate account or accounts in the name of each
Fund, (ii) holds and transfers portfolio securities on account of each Fund,
(iii) accepts receipts and makes disbursements of money on behalf of each Fund,
(iv) collects and receives all income and other payments and distribution on
account of each Fund's securities and (v) makes periodic reports to the Board
concerning each Fund's operations.
[ ] (the "Auditors"), is the independent registered public accounting
firm for the Trust. The Auditors audit the financial statements of each Fund
once each year. The Auditors also provide certain other services, including
assistance and consultation with respect to regulatory filings with the SEC.
The validity of shares of beneficial interest offered hereby has been passed on
by Sutherland Asbill & Brennan LLP, 1275 Pennsylvania Avenue N.W., Washington,
D.C. 20004, which has also provided advice as to certain matters under the
federal securities laws with respect to the Funds.
POLICIES REGARDING BROKER-DEALERS USED FOR PORTFOLIO TRANSACTIONS
Decisions to buy and sell securities for the Funds, assignment of their
portfolio business, and negotiation of commission rates and prices are made by
the Adviser, whose policy is to obtain the "best execution" available (i.e.,
prompt and reliable execution at the most favorable security price). If
purchases made by the Funds are effected via principal transactions with one or
more dealers (typically a market maker firm in the particular security or a
selling group member in the case of an initial or secondary public offering) at
net prices, the Funds will generally incur few or no direct brokerage costs.
These dealers are compensated principally through the "spread," or the
difference between the price at which they are willing to buy a security and the
higher price at which they are willing to sell it, but they may also charge
related transaction fees. Similarly, CDS Contracts typically are entered into
directly with a dealer, without any direct brokerage costs. Purchases of
portfolio securities from underwriters may include a commission or concession
paid by the issuer to the underwriter.
In selecting broker-dealers and in negotiating commissions and transaction
prices, the Adviser generally considers, among other things, the broker-dealer's
reliability, the quality of its execution services on a continuing basis, the
financial condition of the broker-dealer, and, to the extent permitted by law,
any research services provided by the broker-dealer, which may include advice as
to the value of securities or the advisability of purchasing or selling specific
securities and analysis and reports concerning securities, economic factors and
trends, and portfolio strategy. The Adviser considers such research services,
which is in addition to and not in lieu of the services required to be performed
by the Adviser under the Agreements, to be useful in varying degrees, but of
indeterminable value.
In light of certain requirements of the Internal Revenue Code and the 1940 Act,
each Fund may be limited in the amount of its assets that can be invested in CDS
Contracts through any one counterparty. Therefore, each Fund will at any one
time generally own CDS Contracts through a number of such counterparties. To the
extent diversification among counterparties is required, the Funds may find it
necessary to enter into CDS Contracts with dealers that may not be offering the
best possible price to the Fund at the time the Contract is entered into.
15
In order to obtain additional research and brokerage services, and in order to
obtain other qualitative execution services that the Adviser believes are
important to best execution, the Adviser may place fixed-income transactions
with specialized broker-dealers with which the Adviser has a "soft dollar"
credit arrangement, and that execute such transactions on an agency basis
("Brokers"). However, the Adviser currently does not have any such soft dollar
arrangements in place. If the Adviser in the future uses Brokers to execute
fixed-income transactions on an agency basis, the Adviser will do so subject to
oversight by the Board and will take steps to ensure that the prices obtained in
such transactions are competitive with the prices that could have been obtained
had the transactions been conducted on a principal basis, I.E., directly with
the dealers. However, the total cost (I.E., price plus/minus commission) of
executing a fixed income transaction through a Broker on an agency basis may be
less favorable than that of executing that same transaction with a dealer
because the Broker will receive a commission for its services, including for the
provision of research products, services or credits. In addition, in these
transactions the Funds could pay brokerage commissions at rates higher than the
lowest available rates in order to obtain brokerage and research services as
authorized, under certain circumstances, by the Securities Exchange Act of 1934,
as amended. The Adviser will take steps to ensure that commissions paid are
reasonable in relation to, among other things: (i) the value of all the
brokerage and research products and services provided by that Broker and (ii)
the quality of execution provided by that Broker. Accordingly, the Adviser uses
Brokers to effect fixed income transactions for the Funds where the total cost
is, in the Adviser's opinion, reasonable, but not necessarily the lowest total
cost available. Any research received by the Adviser will be used for the
exclusive benefit of the Funds and their shareholders, although research may be
used for Funds other than those that paid the brokerage commissions through
which the research was obtained.
As the Funds had not commenced operations prior to the date of this SAI, no data
on commissions paid is included herein.
If purchases or sales of securities of the Funds are considered at or about the
same time, transactions in such securities will be allocated among the several
Funds in a manner deemed equitable to all by the Adviser, taking into account
the respective sizes of the Funds, the amount of securities to be purchased or
sold, and each Fund's need for the securities in terms of meeting its investment
objective of tracking the Underlying Index. It is recognized that it is possible
that in some cases this procedure could have a detrimental effect on the price
or volume of the security so far as a Fund is concerned. In other cases,
however, it is possible that the ability to participate in volume transactions
and to negotiate lower brokerage commissions or net prices will be beneficial to
a Fund.
ADDITIONAL INFORMATION REGARDING PURCHASES, REDEMPTIONS AND TRADING OF FUND
SHARES
CONTINUOUS OFFERING
The method by which Creation Unit Aggregations of shares are created and traded
may raise certain issues under applicable securities laws. Because new Creation
Unit Aggregations of shares are issued and sold by the Funds on an ongoing
basis, at any point a "distribution," as such term is used in the Securities
Act, may occur. Broker-dealers and other persons are cautioned that some
activities on their part may, depending on the circumstances, result in their
being deemed participants in a distribution in a manner which could render them
statutory underwriters and subject them to the prospectus delivery requirement
and liability provisions of the Securities Act.
For example, a broker-dealer firm or its client may be deemed a statutory
underwriter if it takes Creation Unit Aggregations after placing an order with
the Distributor, breaks them down into constituent shares, and sells such shares
directly to customers, or if it chooses to couple the creation of a supply of
new shares with an active selling effort involving solicitation of secondary
market demand for shares. A determination of whether one is an underwriter for
purposes of the Securities Act must take into account all the facts and
circumstances pertaining to the activities of the broker-dealer or its customer
in the particular case, and the examples mentioned above should not be
considered a complete description of all the activities that could lead to a
categorization as an underwriter.
Broker-dealer firms should also note that dealers who are not "underwriters" but
are effecting transactions in Fund shares, whether or not participating in the
distribution of such shares, are generally required to deliver a prospectus.
This is because the prospectus delivery exemption in Section 4(3) of the
Securities Act is not available in respect of such transactions as a result of
Section 24(d) of the 1940 Act. The Trust, on behalf of each Fund, however, has
received from the SEC an exemption from the prospectus delivery requirement in
ordinary secondary market transactions under certain circumstances, on the
condition that purchasers are provided with a product description of the
relevant Fund and its shares. As a result, broker-dealer firms should note that
dealers who are not underwriters but are participating in a distribution (as
contrasted with ordinary secondary market transactions) and thus dealing with
Fund shares that are part of an overallotment within the meaning of Section
4(3)(a) under the Securities Act would be unable to take advantage of the
prospectus delivery exemption provided by Section 4(3) of the Securities Act.
Firms that incur a prospectus delivery obligation with respect to shares are
reminded that, pursuant to Rule 153 under the Securities Act, a prospectus
delivery obligation under Section 5(b)(2) of the Securities Act owed to an
exchange member in connection with a sale on the Exchange is satisfied by the
fact that the prospectus is available at the Exchange upon request. The
prospectus delivery mechanism provided in Rule 153 is only available with
respect to transactions on an exchange.
16
EXCHANGE LISTING AND TRADING
A discussion of exchange listing and trading matters associated with an
investment in a Fund is contained in the Prospectus in the Section entitled
"Buying and Selling Shares." The discussion below supplements, and should be
read in conjunction with, such sections of the Prospectus.
Shares of each Fund are listed on the Exchange and trade throughout the day on
the Exchange. There can be no assurance that the requirements of the Exchange
necessary to maintain the listing of shares of a Fund will continue to be met.
The Exchange may, but is not required to, remove the shares of a Fund from
listing if (i) following the initial 12-month period beginning upon the
commencement of trading of the Fund, there are fewer than 50 beneficial owners
of the shares of a Fund for 30 or more consecutive trading days; or (ii) such
other event shall occur or condition shall exist that, in the opinion of the
Exchange, makes further dealings on the Exchange inadvisable. The Exchange will
remove the shares of a Fund from listing and trading upon termination of such
Fund.
BOOK ENTRY ONLY SYSTEM
DTC Acts as securities depository for each Fund's shares. Shares of each Fund
are represented by securities registered in the name of DTC or its nominee, Cede
& Co., and deposited with, or on behalf of, DTC.
DTC, a limited-purpose trust company, was created to hold securities of its
participants (the "DTC Participants") and to facilitate the clearance and
settlement of securities transactions among the DTC Participants in such
securities through electronic book-entry changes in accounts of the DTC
Participants, thereby eliminating the need for physical movement of securities'
certificates. DTC Participants include securities brokers and dealers, banks,
trust companies, clearing corporations and certain other organizations, some of
whom (and/or their representatives) own DTC. More specifically, DTC is owned by
a number of its DTC Participants and by the New York Stock Exchange ("NYSE"),
the American Stock Exchange and the Financial Industry Regulatory Authority.
Access to the DTC system is also available to others such as banks, brokers,
dealers and trust companies that clear through or maintain a custodial
relationship with a DTC Participant, either directly or indirectly (the
"Indirect Participants").
Beneficial ownership of shares is limited to DTC Participants, Indirect
Participants and persons holding interests through DTC Participants and Indirect
Participants. Ownership of beneficial interests in shares (owners of such
beneficial interests are referred to herein as "Beneficial Owners") is shown on,
and the transfer of ownership is effected only through, records maintained by
DTC (with respect to DTC Participants) and on the records of DTC Participants
(with respect to Indirect Participants and Beneficial Owners that are not DTC
Participants). Beneficial Owners will receive from or through the DTC
Participant a written confirmation relating to their purchase of shares.
Conveyance of all notices, statements and other communications to Beneficial
Owners is effected as follows. Pursuant to the Depositary Agreement between the
Trust and DTC, DTC is required to make available to the Trust upon request and
for a fee to be charged to the Trust a listing of the shares of any Fund held by
each DTC Participant. The Trust shall inquire of each such DTC Participant as to
the number of Beneficial Owners holding shares, directly or indirectly, through
such DTC Participant. The Trust shall provide each such DTC Participant with
copies of such notice, statement or other communication, in such form, number
and at such place as such DTC Participant may reasonably request, in order that
such notice, statement or communication may be transmitted by such DTC
Participant, directly or indirectly, to such Beneficial Owners. In addition, the
Trust shall pay to each such DTC Participant a fair and reasonable amount as
reimbursement for the expenses attendant to such transmittal, all subject to
applicable statutory and regulatory requirements.
Distributions on Fund shares shall be made to DTC or its nominee as the
registered holder of all shares. DTC or its nominee, upon receipt of any such
distributions, shall credit immediately DTC Participants' accounts with payments
in amounts proportionate to their respective beneficial interests in shares of a
Fund as shown on the records of DTC or its nominee. Payments by DTC Participants
to Indirect Participants and Beneficial Owners of shares held through such DTC
Participants will be governed by standing instructions and customary practices,
as is now the case with securities held for the accounts of customers in bearer
form or registered in a "street name," and will be the responsibility of such
DTC Participants.
17
The Trust has no responsibility or liability for any aspect of the records
relating to or notices to Beneficial Owners, or payments made on account of
beneficial ownership interests in such shares, or for maintaining, supervising
or reviewing any records relating to such beneficial ownership interests, or for
any other aspect of the relationship between DTC and the DTC Participants or the
relationship between such DTC Participants and the Indirect Participants and
Beneficial Owners owning through such DTC Participants.
DTC may decide to discontinue providing its service with respect to shares of a
Fund at any time by giving reasonable notice to the Trust and discharging its
responsibilities with respect thereto under applicable law. Under such
circumstances, the Trust shall take action to find a replacement for DTC to
perform its functions.
CREATION AND REDEMPTION OF CREATION UNITS
CREATION. The Trust issues and sells shares of each Fund only in Creation Unit
Aggregations on a continuous basis through the Distributor, without a sales
load, at the NAV next determined after receipt, on any Business Day (as defined
below), of an order in proper form. Creation Units of the Funds are sold only
for cash (the "Cash Purchase Amount").
A "Business Day" is defined as any day that (i) the Government Securities
markets in the United States, (ii) the Custodian and (iii) the New York Stock
Exchange and the Exchange are open for business. The term Business Day,
therefore, does not include certain federal holidays when banks and the
Government Securities market are closed (as recommended by the Security Industry
and Financial Markets Association) but national securities exchanges are open,
currently Columbus Day and Veterans Day. In addition, as of the date of this
SAI, the New York Stock Exchange and the Exchange, as well as banks and the
Government Securities markets, observe the following holidays: New Year's Day,
Martin Luther King, Jr. Day, Presidents' Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving Day and Christmas Day.
PROCEDURES FOR CREATION OF CREATION UNIT AGGREGATIONS. To be eligible to place
orders with the Distributor and to create a Creation Unit Aggregation of a Fund,
an entity must be: (i) a "Participating Party (i.e., a broker-dealer or other
participant in the clearing process through the Continuous Net Settlement System
of the NSCC (the "Clearing Process"), a clearing agency that is registered with
the SEC; or (ii) a DTC Participant and, in either case, must have executed an
agreement with the Distributor with respect to creations and redemptions of
Creation Unit Aggregations (a "Participant Agreement"). Participating Parties
and DTC Participants who have executed Participant Agreements that have been
delivered to the Fund and accepted by the Distributor are referred to as
"Authorized Participants." Investors should contact the Distributor for the
names of Authorized Participants. All shares of a Fund, however created, will be
entered on the records of DTC in the name of Cede & Co. for the account of a DTC
Participant.
Except as described below, all orders to create Creation Unit Aggregations of a
Fund must be received in proper form by the Distributor no later than the close
of the regular trading session on the NYSE (ordinarily 4:00 p.m. Eastern time)
("Closing Time"), if transmitted by mail, or 3:00 p.m., Eastern time, if
transmitted by telephone, facsimile or other transmission method permitted under
the Participant Agreement, on the date such order is placed in order for the
creation of Creation Unit Aggregations to be effected based on the NAV of shares
of the Fund determined at the Closing Time on such date. On days when the NYSE
closes earlier than normal, the Funds may require orders to create Creation Unit
Aggregations to be placed earlier in the day. The date on which an order to
create Creation Unit Aggregations (or an order to redeem Creation Unit
Aggregations, as discussed below) is placed is referred to as the "Transmittal
Date." Orders must be transmitted by an Authorized Participant by telephone or
other transmission method acceptable to the Distributor pursuant to procedures
set forth in the Participant Agreement. Economic or market disruptions or
changes, or telephone or other communication failure may impede the ability to
reach the Distributor or an Authorized Participant.
All orders to create Creation Unit Aggregations on behalf of an investor are
required to be placed with an Authorized Participant, as applicable, in the form
required by such Authorized Participant. In addition, the Authorized Participant
may request the investor to make certain representations or enter into
agreements with respect to the order (E.G., to provide for payments of cash,
when required). Investors should be aware that their particular broker may not
have executed a Participant Agreement and that, therefore, orders to create
Creation Unit Aggregations of a Fund have to be placed by the investor's broker
through an Authorized Participant that has executed a Participant Agreement. In
such cases there may be additional charges to such investor. At any given time,
there may be only a limited number of broker-dealers that have executed a
Participant Agreement.
The Cash Purchase Amount must be transferred directly to the Custodian through
the Federal Reserve Bank wire transfer system in a timely manner so as to be
received by the Custodian no later than [2:00 p.m.] Eastern time on the Business
Day immediately following the Transmittal Date. If the Cash Purchase Amount is
not received by [2:00 p.m.], the creation order will be cancelled. Upon written
notice to the Distributor, such canceled order may be resubmitted the following
Business Day using a Fund Deposit as newly constituted to reflect the then
current NAV of the Fund. The delivery of Creation Unit Aggregations so created
generally will occur no later than the third (3rd) Business Day following the
day on which the purchase order is deemed received by the Distributor.
18
ACCEPTANCE OF ORDERS FOR CREATION UNIT AGGREGATIONS. The Trust reserves the
absolute right to reject a creation order transmitted to it by the Distributor
in respect of any Fund if: (i) the order is not in proper form; (ii) the
investor(s), upon obtaining the shares ordered, would own 80% or more of the
currently outstanding shares of any Fund; (iii) acceptance of the Cash Purchase
Amount would, in the opinion of the Trust, be unlawful; (iv) acceptance of the
Cash Purchase Amount would otherwise, in the discretion of the Trust or the
Adviser, have an adverse effect on the Trust or the rights of beneficial owners;
or (v) in the event that circumstances outside the control of the Trust, the
Custodian, the Distributor and the Adviser make it for all practical purposes
impossible to process creation orders. Examples of such circumstances include:
acts of God or public service or utility problems such as fires, floods, extreme
weather conditions and power outages resulting in telephone, telecopy and
computer failures; market conditions or activities causing trading halts;
systems failures involving computer or other information systems affecting the
Trust, the Adviser, the Distributor, DTC, NSCC, the Custodian, or any other
participant in the creation process, and other extraordinary events. The
Distributor or the Trust shall notify a prospective creator of a Creation Unit
and/or the Authorized Participant acting on behalf of the creator of a Creation
Unit Aggregation of its rejection of the order of such person. The Trust, the
Custodian, and the Distributor are generally under no duty, however, to give
notification of any defects or irregularities in the delivery of Fund Deposits
nor shall any of them incur any liability for the failure to give any such
notification.
All questions as to the acceptance for deposit of any securities to be delivered
shall be determined by the Trust, and the Trust's determination shall be final
and binding.
CREATION TRANSACTION FEE. To compensate each Fund for transfer and other
transaction costs involved in creation transactions, investors will be required
to pay a fixed creation transaction fee of $500 payable to each Fund ("Creation
Transaction Fee"). This fee is charged per day on which the investor purchases
shares in Creation Unit Aggregations, regardless of the number of Creation Units
being purchased by the investor on that day. The Funds, subject to approval by
the Board, may adjust the Creation Transaction Fee from time to time based on
actual experience. In all cases, the Creation Transaction Fee will be limited in
accordance with the requirements of the SEC applicable to management investment
companies offering redeemable securities. Investors who use the services of a
broker or other such intermediary in addition to an Authorized Participant to
effect a creation of a Creation Unit Aggregation may be charged a fee for such
services.
REDEMPTION. Shares may be redeemed only in Creation Unit Aggregations at their
NAV next determined after receipt of a redemption request in proper form by a
Fund. A Fund will not redeem shares in amounts less than Creation Unit
Aggregations. Beneficial Owners must accumulate enough shares in the secondary
market to constitute a Creation Unit Aggregation in order to have such shares
redeemed by the Trust. There can be no assurance, however, that there will be
sufficient liquidity in the public trading market at any time to permit assembly
of a Creation Unit Aggregation. In addition, investors should expect to incur
brokerage and other costs in connection with assembling a sufficient number of
shares to constitute a redeemable Creation Unit Aggregation.
The redemption proceeds for a Creation Unit Aggregation will consist solely of
cash in an amount equal to the NAV of the shares being redeemed, as next
determined after receipt of a request in proper form, less a redemption
transaction fee described below in the section entitled "Redemption Transaction
Fee."
The right of redemption may be suspended or the date of payment postponed with
respect to any Fund (i) for any period during which the Exchange is closed
(other than customary weekend and holiday closings); (ii) for any period during
which trading on the Exchange is suspended or restricted; (iii) for any period
during which an emergency exists as a result of which disposal of the shares of
a Fund or determination of such Fund's NAV is not reasonably practicable; or
(iv) in such other circumstances as is permitted by the SEC.
REDEMPTION TRANSACTION FEE. A redemption transaction fee of $500 is imposed to
offset transfer and other transaction costs that may be incurred by each Fund.
The fee is a single charge per day on which an investor redeems shares in
Creation Unit Aggregations, and will be the same regardless of the number of
Creation Units redeemed by the investor on the same day. The Funds, subject to
approval by the Board, may adjust the Redemption Transaction Fee from time to
time based on actual experience. In all cases, the Redemption Transaction Fee
will be limited in accordance with the requirements of the SEC applicable to
management investment companies offering redeemable securities. Investors who
use the services of a broker or other such intermediary in addition to an
Authorized Participant to effect a redemption of a Creation Unit Aggregation may
be charged a fee for such services.
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PROCEDURES FOR REDEMPTION OF CREATION UNIT AGGREGATIONS. To be eligible to place
redemption orders for Creation Unit Aggregations of the Funds, an entity must be
a DTC Participant that has executed a Participant Agreement. An order to redeem
Creation Unit Aggregations is deemed received by the Trust on the Transmittal
Date if (i) such order is received no later than 4:00 p.m. Eastern time, if
transmitted by mail, or no later than 3:00 p.m. Eastern time, if transmitted by
other means, on such Transmittal Date; (ii) such order is accompanied by the
requisite number of shares of a Fund, which delivery must be made through DTC to
the Custodian no later than [2:00 p.m.] Eastern time on the Business Day
immediately following the Transmittal Date; and (iii) all other procedures set
forth in the Participant Agreement are properly followed. On days when the
Exchange closes earlier than normal, the Funds may require orders to redeem
Creation Unit Aggregations to be placed earlier in the day. After the Trust has
deemed an order for redemption received, the Trust will initiate procedures to
transfer the redemption proceeds to the Authorized Participant on behalf of the
redeeming Beneficial Owner by the third Business Day following the Transmittal
Date on which such redemption order is deemed received by the Distributor.
THE INDICATIVE FUND VALUE. The trading prices of shares in the secondary market
may differ in varying degrees from their daily NAVs and can be affected by
market forces such as supply and demand, economic conditions and other factors.
In order to provide updated information relating to the Trust for use by
investors and market professionals, an approximate value of shares of each Fund
(the "Indicative Fund Value" or "IFV") will be disseminated every fifteen
seconds throughout the trading day by the Exchange or by other information
providers, such as Bloomberg. This IFV should not be viewed as a "real-time"
update of the NAV, because the IFV may not be calculated in the same manner as
the NAV, which is computed once a day. The IFV will be calculated by an
independent third party, who will determine the value of Fund holdings using:
(i) for CDS Contracts, intra-day prices obtained from counterparties with which
the Fund has entered into ISDA agreements; and (ii) for U.S. Treasury bills,
prices from third-party pricing services that are based on price quotations
obtained from broker-dealers that trade in such securities. The Trust is not
involved in, or responsible for, the calculation or dissemination of the IFV and
makes no warranty as to its accuracy.
DETERMINATION OF NET ASSET VALUE PER SHARE ("NAV")
The NAV for each Fund is calculated by deducting all of a Fund's liabilities
(including accrued expenses) from the total value of its assets (including the
securities held by the Fund plus any cash or other assets, such as interest
accrued but not yet received) and dividing the result by the number of shares
outstanding, and generally rounded to the nearest cent, although each Fund
reserves the right to calculate its NAV to more than two decimal places. The NAV
is calculated by the Administrator and determined as of the close of the regular
trading on the Exchange (ordinarily 4:00 p.m. Eastern time) on each day that all
of (i) the government securities markets, (ii) the Custodian, and (iii) the
Exchange are open for business.
In calculating a Fund's NAV, the Fund's investments are generally valued using
market valuations. A market valuation generally means a valuation (i) obtained
from an exchange, a pricing service, or a major market maker (or dealer), or
(ii) based on a price quotation or other equivalent indication of value supplied
by an exchange, a pricing service, or a major market maker (or dealer). The
value of CDS Contracts held by the Funds for purposes of determining NAV is
determined by obtaining price quotations from each counterparty with which the
Fund has entered into an ISDA agreement, and using the best "bid" price (where
the Fund is a protection buyer) or "offer" price (where the Fund is a protection
seller) obtained. In the case of shares of other funds that are not traded on an
exchange, a market valuation means such fund's published net asset value per
share. The Adviser may use various pricing services or discontinue the use of
any pricing service. A price obtained from a pricing service based on such
pricing service's valuation matrix may be considered a market valuation. In the
event that current market valuations are not readily available or such
valuations do not reflect current market values, the affected investments will
be valued using fair value pricing pursuant to pricing policies and procedures
approved by the Board.
TAXATION
TAXATION OF RICS
Each Fund is treated as a separate entity and intends to qualify and elect
treatment in each year as a separate regulated investment company ("RIC") under
Subchapter M of the Internal Revenue Code of 1986 (the "Code"). As such, each
Fund should not be subject to federal income tax on its net investment income
and capital gains, if any, to the extent that it timely distributes such income
and capital gains to shareholders. To qualify for treatment as a RIC, a Fund
must annually distribute at least 90% of its net investment company taxable
income (which includes dividends, interest and net short-term capital gains) and
meet several other requirements. Among such other requirements are the
following: (i) at least 90% of the Fund's annual gross income must be derived
from dividends, interest, payments with respect to securities loans, gains from
the sale or other disposition of stock or securities or foreign currencies, or
other income (including gains from options, futures or forward contracts)
derived with respect to its business of investing in such stock, securities or
currencies, and net income derived from an interest in a qualified publicly
traded partnership; and (ii) at the close of each quarter of the Fund's taxable
year, (a) at least 50% of the market value of the Fund's total assets must be
represented by cash and cash items, U.S. Government securities, securities of
other RICs and other securities, with such other securities limited for purposes
of this calculation in respect of any one issuer to an amount not greater than
5% of the value of the Fund's assets and not greater than 10% of the outstanding
voting securities of such issuer, and (b) not more than 25% of the value of its
total assets may be invested in the securities (other than U.S. Government
securities and securities of other RICs) of any one issuer, the securities
(other than RIC securities) or of two or more issuers engaged in the same or
similar trades or businesses or related trades or businesses as the Fund if the
Fund owns stock representing at least 20% of the voting power stock of such
issuers, or the securities of one or more qualified publicly traded
partnerships.
20
Although each Fund intends to distribute substantially all of its net investment
income and its capital gains for each taxable year, each Fund will be subject to
federal income taxation to the extent any such income or gains are not
distributed. If a Fund's distributions exceed its taxable income and capital
gains realized during a taxable year, all or a portion of the distributions made
in the taxable year may be recharacterized as a return of capital to
shareholders. A return of capital distribution will not be taxable to the extent
of a shareholder's adjusted basis but will reduce such basis and result in a
higher capital gain or lower capital loss when those shares on which the
distribution was received are sold. To the extent of a return of capital
distribution exceeds a shareholder's adjusted basis, the distribution will be
treated as gain from the sale of shares.
If a Fund fails to qualify for any taxable year as a RIC, all of its taxable
income will be subject to tax at regular corporate income tax rates without any
deduction for distributions to shareholders, and such distributions generally
will be taxable to shareholders as ordinary dividends to the extent of the
Fund's current and accumulated earnings and profits. In such event,
distributions to individuals generally should qualify as qualified dividend
income and distributions to corporate shareholders generally should be eligible
for the dividends-received deduction.
A Fund will be subject to a 4% excise tax on certain undistributed income if it
does not distribute to its shareholders in each calendar year at least 98% of
its ordinary income for the calendar year plus 98% of its capital gain net
income for the twelve months ended October 31 of such year, plus 100% of any
ordinary income or capital gain net income not distributed in prior years. Each
Fund intends to declare and distribute dividends and distributions in the
amounts and at the times necessary to avoid the application of this 4% excise
tax.
SHAREHOLDER TAXATION
The following discussion of certain federal income tax issues of shareholders of
the Funds is a general and abbreviated summary based on tax laws and regulations
in effect on the date of this statement of additional information. The
discussion does not generally address special tax rules applicable to certain
classes of investors, such as qualified retirement accounts or trusts,
tax-exempt entities, insurance companies, banks and other financial institutions
or to non-U.S. taxpayers. Dividends, capital gain distributions, and ownership
of or gains realized on the redemption of the shares of a Fund may also be
subject to state, local and foreign taxes. Shareholders should consult their own
tax advisors as to the federal, state, local or foreign tax consequences of
ownership of shares of, and receipt of distributions from, a Fund in their
particular circumstances.
DISTRIBUTIONS. Distributions of a Fund's investment company taxable income are
taxable as ordinary income to shareholders to the extent of the Fund's current
or accumulated earnings and profits, whether paid in cash or reinvested in
additional shares. Any distribution of a Fund's net capital gain properly
designated by the Fund as a "capital gain dividend" is taxable to a shareholder
as long-term capital gain regardless of a shareholder's holding period for his,
her or its shares and regardless of whether paid in cash or reinvested in
additional shares. Distributions, if any, in excess of earnings and profits
usually constitute a return of capital, which first reduces an investor's tax
basis in the Fund's shares and thereafter (after such basis is reduced to zero)
generally gives rise to capital gains.
Any dividend declared by a Fund in October, November, or December of any
calendar year, payable to shareholders of record as of a specified date in such
a month and actually paid during January of the following year, is treated as if
it had been received by the shareholders on December 31 of the year in which the
dividend was declared.
BUYING A DIVIDEND. An investor should consider the tax implications of buying
shares just prior to a distribution. Even if the price of the shares includes
the amount of the forthcoming distribution, the shareholder generally will be
taxed upon receipt of the distribution and is not entitled to offset the
distribution against the tax basis in his, her or its shares. More generally, an
investor should be aware that, at the time he, she or it purchases shares of a
Fund, a portion of the purchase price will often be attributable to realized or
unrealized appreciation in the Fund's portfolio or undistributed taxable income
of the Fund. Subsequent distributions from such appreciation or income may be
taxable to such investor even if the net asset value of the investor's shares
is, as a result of the distributions, reduced below the investor's cost for such
shares, and the distributions in reality represent a return of a portion of the
purchase price.
21
QUALIFIED DIVIDEND INCOME AND DIVIDENDS RECEIVED DEDUCTION. Special rules apply
to ordinary income dividends paid to its shareholders by a RIC attributable to
"qualified dividend income." Such dividends are subject to tax in the hands of
individual shareholders at the same reduced maximum rates applicable to
long-term capital gains if certain requirements are met. These rules apply only
to taxable years beginning before January 1, 2011. In addition, ordinary income
dividends paid by a RIC to corporate shareholders in certain circumstances may
be eligible for the dividends received deduction. The Funds do not expect any
significant amount of their distributions to qualify under either of these
provisions.
GAINS AND LOSSES ON SALES AND REDEMPTIONS. A redemption of shares generally does
not result in the recognition of taxable gain or loss by the Fund but generally
will constitute a taxable event for the redeeming shareholder. The amount of the
gain or loss on a sale or redemption is measured by the difference between the
shareholder's adjusted tax basis in the shares and the amount of cash received
in exchange for such shares. Any gain or loss arising from (or, in the case of
distributions in excess of earnings and profits, treated as arising from) the
sale or redemption of shares generally is a capital gain or loss. This capital
gain or loss normally is treated as a long-term capital gain or loss if the
shareholder has held the shares for more than one year at the time of such sale
or redemption; otherwise, it generally will be classified as short-term capital
gain or loss. If, however, a shareholder receives a capital gain dividend with
respect to any share of a Fund, and if the share is sold before it has been held
by the shareholder for at least six months, then any loss on the sale or
exchange of the share, to the extent of the capital gain dividend, is treated as
a long-term capital loss. In addition, all or a portion of any loss realized
upon a taxable disposition of shares may be disallowed if other shares of the
Fund are purchased (including any purchase through a reinvestment of
distributions from the Fund) within 30 days before or after the disposition. In
such a case, the basis of the shares acquired will be adjusted to reflect the
disallowed loss.
LONG-TERM CAPITAL GAINS. In general, non-corporate shareholders currently are
subject to a maximum federal income tax rate of 15% on their long-term capital
gain (the excess of net long-term capital gain over net short-term capital loss)
for a taxable year (including a long-term capital gain derived from an
investment in the shares), while other income may be taxed at rates as high as
35%. Corporate taxpayers currently are subject to federal income tax on net
capital gain at the a maximum rate of 35% rate, the same rate as ordinary
income.
The maximum rate on long-term capital gains of individuals applies to taxable
years beginning before January 1, 2011. Without additional Congressional action,
the maximum rate of tax on long-term capital gains will return to 20% (or 10% in
the case of individual investors who are in the 10% or 15% tax bracket).
DEDUCTION OF CAPITAL LOSSES. Non-corporate shareholders with net capital losses
for a year (I.E., capital losses in excess of capital gains) generally may
deduct up to $3,000 of such losses against their ordinary income each year; any
net capital losses of a non-corporate shareholder in excess of $3,000 generally
may be carried forward and used in subsequent years as provided in the Code.
Corporate shareholders generally may not deduct any net capital losses against
ordinary income, but may carry back such losses for three years or carry forward
such losses for five years.
NOTICES TO SHAREHOLDERS. The Funds send to each of its shareholders, as promptly
as possible after the end of each calendar year, a notice detailing, on a per
share and per distribution basis, the amounts includable in such shareholder's
taxable income for such year as ordinary income and as long-term capital gain.
In addition, the federal tax status of each year's distributions generally is
reported to the IRS.
NON-U.S. INVESTORS. If you are not a citizen or permanent resident of the United
States, each Fund's ordinary income dividends will generally be subject to a 30%
U.S. withholding tax, unless a lower treaty rate applies or unless such income
is effected connected with a U.S. trade or business. Recently expired provisions
of the Code, the renewal of which has been proposed in Congress, allowed an
exemption from 30% withholding for "interest-related dividends" and for
"short-term capital gain dividends" received by a nonresident alien or foreign
entity from a RIC if certain requirements were met. A portion of the
distributions by a Fund may qualify under these provisions if reenacted by
Congress.
BACK-UP WITHHOLDING. A Fund may be required to withhold at the applicable
withholding rate federal income tax from any distributions paid to (1) any
shareholder who has failed to provide to the Fund a correct taxpayer
identification number or a certificate that such shareholder is not subject to
backup withholding; and (2) any shareholder with respect to whom the IRS
notifies the Fund that the shareholder has failed to properly report certain
interest and dividend income to the IRS and to respond to notices to that
effect. The backup withholding tax is not an additional tax and may be refunded
or credited against a taxpayer's regular federal income tax liability if
appropriate information is provided to the IRS.
22
FUTURES CONTRACTS. Each Fund may purchase or sell futures contracts. Such
transactions are subject to special tax rules which may affect the amount,
timing and character of distributions to shareholders. Unless a Fund is eligible
to make and makes a special election, such futures contracts that are "Section
1256 contracts" (such as a futures contract the margin requirements for which
are based on a marked-to-market system and which is traded on a "qualified board
or exchange") will be "marked to market" for federal income tax purposes at the
end of each taxable year, i.e., each futures contract will be treated as sold
for its fair market value on the last day of the taxable year. In general,
unless the special election is made, gain or loss from transactions in such
futures contracts will be 60% long-term and 40% short-term capital gain or loss.
The foregoing discussion is a summary only and is not intended as a substitute
for careful tax planning. Purchasers of shares should consult their own tax
advisers as to the tax consequences of investing in such shares, including under
state, local and foreign tax laws. Finally, the foregoing discussion is based on
applicable provisions of the Code, regulations, judicial authority and
administrative interpretations in effect on the date of this SAI. Tax law is
subject to change by legislative, judicial or administrative action. Changes in
applicable authority could materially affect the conclusions discussed above,
and such changes often occur.
DIVIDENDS AND DISTRIBUTIONS
GENERAL POLICIES. Dividends from net investment income, if any, are declared and
paid at least quarterly by each Fund. Distributions of net realized securities
gains, if any, generally are declared and paid once a year. The Trust may pay
dividends or make distributions on a more frequent basis for the Funds. The
Trust reserves the right to declare special distributions if, in its reasonable
discretion, such action is necessary or advisable to preserve the status of each
Fund as a RIC or to avoid imposition of income or excise taxes on undistributed
income.
Dividends and other distributions on shares are distributed, as described below,
on a pro rata basis to Beneficial Owners of such shares. Dividend payments are
made through DTC Participants and Indirect Participants to Beneficial Owners
then of record with proceeds received from the Funds.
DIVIDEND REINVESTMENT SERVICE. No dividend reinvestment service is currently
provided by the Trust in connection with the Funds. Broker-dealers may make
available the DTC book-entry Dividend Reinvestment Service for use by Beneficial
Owners of the Funds for reinvestment of their dividend distributions. Beneficial
Owners should contact their broker to determine the availability and costs of
the service and the details of participation therein. Brokers may require
Beneficial Owners to adhere to specific procedures and timetables. If this
service is available and used, dividend distributions of both income and
realized gains will be automatically reinvested in additional whole shares of
the same Fund purchased in the secondary market.
PRINCIPAL HOLDERS OF SECURITIES
No shares of the Funds were outstanding prior to the date of this SAI.
MISCELLANEOUS INFORMATION
Generally, Delaware statutory trust shareholders are not personally liable for
obligations of the Delaware statutory trust under Delaware law. The Delaware
Statutory Trust Act provides that a shareholder of a Delaware statutory trust
(such as the Trust) shall be entitled to the same limitation of liability
extended to shareholders of private, for-profit corporations. It is nevertheless
possible that the shareholders of the Trust could be held personally liable for
its obligations under certain circumstances, including if the Trust were to
become a party to an action in another state whose courts refused to apply
Delaware law. However, the Trust's Declaration of Trust contains an express
disclaimer of shareholder liability for acts or obligations of the Trust. The
Declaration of Trust also provides for indemnification and reimbursement of
expenses out of Trust assets for any shareholder held personally liable for
obligations of the Trust. The Declaration of Trust also provides that a Trust
shall, upon request, assume the defense of any claim made against any
shareholder for any act or obligation of the Trust and satisfy any judgment
thereon. All such rights are limited to the assets of the Fund(s) of which a
shareholder holds shares. The Declaration of Trust further provides that the
Trust may maintain appropriate insurance (for example, fidelity bonding and
errors and omissions insurance) for the protection of the Trust (and, therefore,
its shareholders), Trustees, officers, employees and agents to cover possible
tort and other liabilities. Furthermore, the activities of the Funds as
investment companies as distinguished from operating companies would not likely
give rise to liabilities in excess of a Fund's total assets. Thus, the risk of a
shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which both inadequate insurance exists and a Fund
itself is unable to meet its obligations.
23
FINANCIAL STATEMENTS
The Funds had not commenced operations, and had no assets, prior to the date of
this SAI. Therefore, no financial statement are included or incorporated by
reference herein.
24
APPENDIX -- DESCRIPTION OF COMMERCIAL PAPER AND BOND RATINGS
COMMERCIAL PAPER RATINGS
Commercial paper consists of unsecured promissory notes issued by corporations
to finance short-term credit needs.
MOODY'S INVESTORS SERVICE, INC. ("MOODY'S"). Commercial paper merits a "Prime"
rating upon Moody's evaluation of many factors, including: (1) the issuer's
management; (2) the issuer's industry or industries and the speculative-type
risks that may be inherent in certain areas; (3) the issuer's products in
relation to competition and customer acceptance; (4) liquidity; (5) amount and
quality of long-term debt; (6) trend of earnings for a period of ten years; (7)
financial strength of a parent company and the relationships that exist with the
issuer; and (8) recognition by the issuer's management of obligations that may
be present or may arise as a result of public interest questions and
preparations to meet such obligations. Relative differences in these factors
determine whether the issuer's commercial paper attains a "Prime-1," "Prime-2,"
or "Prime-3" rating from Moody's.
"Prime-1" indicates a superior ability for repayment of senior short-term debt
obligations. Issuer repayment ability is based in part on: (1) leading market
positions in well-established industries; (2) a high of return on funds
employed; (3) conservative capitalization structures with moderate reliance on
debt and ample asset protection; (4) broad margins in earnings coverage of fixed
financial charges and high internal cash generation; and (5) well-established
access to a range of financial markets and assured sources of alternative
liquidity.
"Prime-2" indicates a strong ability for repayment of short-term debt
obligations. Issuer repayment ability is normally evidenced by many of the
characteristics cited above but to a lesser degree. Earnings trends and coverage
ratios, while sound, may be subject to more variation than "Prime-1."
Capitalization characteristics, while still appropriate, may be affected more by
external conditions than "Prime-1." Ample alternative liquidity is maintained.
STANDARD & POOR'S RATING GROUP ("S&P"). S&P rates commercial paper based on the
likelihood of the repayment of debt. S&P uses the following characteristics to
rate commercial paper: (1) liquidity ratios adequate to meet cash requirements;
(2) long-term senior debt is rated "A" or better; (3) the issuer has access to
at least two additional channels of borrowing; (4) basic earnings and cash flow
have an upward trend with allowance made for unusual circumstances; (5) the
issuer's industry is well-established and the issuer has a strong position
within the industry; and (6) the reliability and quality of management are
unquestioned. The relative strength or weakness of the above factors determines
whether the issuer's commercial paper is rated "A-1," "A-2," or "A-3."
"A-1" indicates that the degree of safety regarding timely payment is very
strong. "A-1" issues determined to possess overwhelming safety characteristics
are designated with a plus (+) sign.
"A-2" indicates the capacity for timely payment on issues is strong; however,
the relative degree of safety is not as high as for issues designated "A-1."
CORPORATE BOND RATINGS
MOODY'S. Moody's assigns an "Aaa" rating only to the best quality bonds. These
bonds, commonly known as "gilt edged," carry the smallest degree of investment
risk. Interest payments are protected by a large or by an exceptionally stable
margin and principal is secure. While the various protective elements are likely
to change, such changes are not likely to impair the fundamentally strong
position of such issues.
Bonds rated "Aa" are high quality by all standards. Together with the "Aaa"
group, "Aa" bonds comprise what are generally known as high-grade bonds. They
are rated lower than "Aaa" bonds because of their smaller margins of protection
or the fluctuation of protective elements may be of greater amplitude or there
may be other elements present making long-term risks appear somewhat larger than
in "Aaa" securities.
Bonds rated "A" possess many favorable investment attributes and are to be
considered as upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate but elements may be present which
suggest a susceptibility to impairment sometime in the future.
Bonds rated "Baa" are considered as medium grade obligations (i.e., they are
neither highly protected nor poorly secured). Interest payments and principal
security appear adequate for the present but certain protective elements may be
lacking or may be characteristically unreliable over any great length of time.
"Baa" bonds lack outstanding investment characteristics and have speculative
characteristics.
25
Bonds rated "Ba" are judged to have speculative elements; their future cannot be
considered as well assured as higher rated bonds. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes "Ba" bonds.
Bonds rated "B" generally lack desirable investment characteristics. Assurance
of interest and principal payments or of maintenance of other terms of the
contract over any long period of time may be small.
Bonds rated "Caa" are of poor standing. These issues may be in default or there
may be present elements of danger with respect to principal or interest.
Bonds rated "Ca" represent obligations which are highly speculative. These
issues are often in default or have other marked shortcomings.
Bonds rated "C" are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment standing.
Moody's modifies corporate bond ratings numerically with a "1," "2," or "3" in
each generic classification from Aa through Caa. The modifier "1" indicates that
the bond ranks in the higher end of its generic rating category; the modifier
"2" indicates a mid-range ranking; and the modifier "3" indicates that the issue
ranks in the lower end of its generic rating category.
S&P. S&P assigns an "AAA" rating to bonds with an extremely strong capacity to
pay interest and repay principal. Bonds rated "AA" have a very strong capacity
to pay interest and repay principal, qualify as high-quality debt obligations,
and differ from "AAA" issues in most instances only in small degree. Bonds rated
"A" also have a strong capacity to pay interest and repay principal, although
they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt rated in higher categories.
Bonds rated "BBB" are regarded as having an adequate capacity to pay interest
and repay principal. Whereas, they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to weakened capacity to pay interest and repay principal for debt
in this category than in higher rated categories.
Bonds rated "BB", "B", "CCC", "CC", and "C", are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay interest
and repay principal in accordance with the terms of the obligation. "BB"
indicates the lowest degree of speculation and "C" the highest degree of
speculation. While such bonds will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions. Bonds rated "BB" have less near-term
vulnerability to default than other speculative issues. However, they face major
ongoing uncertainties or exposure to adverse business, financial, or economic
conditions that could lead to inadequate capacity to meet timely interest and
principal payments.
Bonds rated "B" have a greater vulnerability to default but currently have the
capacity to meet interest payments and principal payments. Adverse business,
financial, or economic conditions will likely impair capacity or willingness to
pay interest and repay principal.
Bonds rated "CCC" are currently vulnerable to default and are dependent upon
favorable business, financial, and economic conditions to meet timely payment of
interest and repayment of principal. In the event of adverse business,
financial, or economic conditions, they are not likely to have the capacity to
pay interest and repay principal.
Bonds rated "C" are currently highly vulnerable to nonpayment. They may be used
to cover a situation where a bankruptcy petition has been filed, but debt
service payments continue.
Bonds are rated "D" when the issue has failed to pay one or more of its
financial obligations (rated or unrated) when it came due. The "D" rating is
assigned when S&P believes that the default will be a general default and that
the obligor will fail to pay all or substantially all of its obligations as they
come due.
S&P modifies ratings with a plus (+) or minus (-) sign to show relative standing
within the major rating categories. Ratings from "AA" to "CCC" may be modified
with a plus (+) or minus (-) sign.
26
EXCHANGE TRADED SPREADS TRUST
FORM N-1A
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PART C
OTHER INFORMATION
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ITEM 23. EXHIBITS
(a) Agreement and Declaration of Trust (1)
(b) By-Laws (2)
(c) Instruments Defining Rights of Security Holders - See Articles III
and V of the Agreement and Declaration of Trust filed herewith as
Exhibit a
(d) Form of Investment Advisory Agreement (2)
(e) (1) Form of Distribution Agreement (2)
(2) Form of Authorized Participant Agreement (2)
(f) Bonus or Profit Sharing Contracts - Not applicable
(g) Form of Custodian Agreement (2)
(h) Other Material Contracts
(1) Form of Administrative Agency Agreement (2)
(2) Form of Fund Accounting and Services Agreement (2)
(3) Form of Transfer Agency and Services Agreement (2)
(i) Opinion and Consent of Sutherland Asbill & Brennan (2)
(j) Other opinions - Independent Auditors' Consent (2)
(k) Omitted Financial Statements - Not applicable
(l) Initial Capital Agreement (2)
(m) Rule 12b-1 Plan - Not applicable
(n) Rule 18f-3 Plan - Not applicable
(o) Reserved
(p) Codes of Ethics
(1) Code of Ethics of Trust (2)
(2) Code of Ethics of Adviser (2)
_____________________
(1) Incorporated by reference to the Registrant's Registration Statement on
Form N-1A (File No. 333-148886) filed on January 28, 2008.
(2) To be filed by amendment.
ITEM 24. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT.
The Trust may be deemed to be under the control of its investment adviser,
ETSpreads, LLC (the "Manager"). The Manager is a California limited liability
company. The Manager is controlled by CCM Partners, LP ("CCM"), a privately held
California limited partnership which in turn is controlled by a family trust of
which Mr. Stephen C. Rogers is a co-trustee.
ITEM 25. INDEMNIFICATION
that Article VII of the Registrant's Agreement and Declaration of Trust
provides that an agent of the Trust (including the trustees and officers of the
Trust), when acting in the agent's capacity as such, shall be liable to the
Trust and to any shareholder solely for such agent's own willful misfeasance,
bad faith, gross negligence or reckless disregard of the duties involved in the
conduct of such agent, and for nothing else. Such an agent also shall not be
liable for errors of judgment or mistakes of fact or law. Subject to the
foregoing, and to the fullest extent that limitations on the liability of
trustees and officers are permitted by the Delaware Statutory Trust Act or other
applicable law, a trustee or officer shall not be responsible or liable in any
event for any act, omission, neglect or wrongdoing of any other agent of the
Trust, and/or of any officer, employee, consultant, investment adviser,
principal underwriter, administrator, fund accountant or accounting agent,
custodian, transfer agent, dividend disbursing agent and/or shareholder
servicing agent of the Trust.
Article VII also provides that the Registrant shall indemnify, out of
Trust property, to the fullest extent permitted under applicable law, any
trustee or officer of the Trust who was or is a party or is threatened to be
made a party to any legal proceeding by reason of the fact that such person is
or was a trustee or officer of the Trust, against all expenses, judgments,
fines, settlements and other amounts actually and reasonably incurred in
connection with such proceeding if the person acted in good faith or in the case
of a criminal proceeding, had no reasonable cause to believe the conduct was
unlawful. Further, the termination of any proceeding by judgment, order or
settlement does not of itself create a presumption that such person did not act
in good faith or that such person had reasonable cause to believe that such
person's conduct was unlawful. Notwithstanding the foregoing, the Trust is not
permitted to indemnify trustees or officers against such person's willful
misfeasance, bad faith, gross negligence or reckless disregard of their duties
as an officer or trustee. The Declaration of Trust also provides that a trustee
or officer may receive advancement of expenses in defending any proceeding or
action. The Declaration of Trust provides that any indemnification under Article
VII shall be made by the Trust if authorized in the specific case on a
determination that indemnification of the trustee or officer is proper in the
circumstances by a majority vote of independent trustees, by a committee of
independent trustees designated by majority vote of independent trustees then in
office, or by independent legal counsel in a written opinion. Agents and
employees of the Trust who are not trustees or officers may be indemnified under
the same standards and procedures described above, at the discretion of the
trustees.
Additionally, with respect to indemnification against liability incurred
by Registrant's underwriter, reference is made to Section __ of the Distribution
Agreement dated ______, 2008 between Registrant and ALPS Distributors, Inc. With
respect to indemnification against liability incurred by Registrant's investment
adviser, reference is made to Section __ of the Investment Advisory Agreement
dated _______, 2008 between the Registrant and ETSpreads, LLC.
ITEM 26. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER.
Currently, the Manager's sole business activity is serving as the
investment adviser to each series of the Registrant. CCM is the managing member
of the Manager, and certain persons providing investment advice on
behalf of the Manager also provide investment advice on behalf of CCM. CCM is
the investment adviser of the California Investment Trust (and its
predecessors), a diversified, open-end management investment company.
ITEM 27. PRINCIPAL UNDERWRITERS
(a) ALPS Distributors, Inc. acts as the distributor for the Registrant and
the following investment companies: AARP Funds, ALPS ETF Trust, ALPS Variable
Insurance Trust, Ameristock Mutual Fund, Inc., BLDRS Index Fund Trust, Campbell
Multi-Strategy Trust, CornerCap Group of Funds, DIAMONDS Trust, Drake Funds,
Financial Investors Trust, Financial Investors Variable Insurance Trust,
Firsthand Funds, Forward Funds, Heartland Group, Inc., HealthShares, Inc.,
Henssler Funds, Inc., Holland Balanced Fund, Laudus Trust, Milestone Funds, MTB
Group of Funds, Pax World Funds, PowerShares QQQ 100 Trust Series 1, Realty
Funds, Inc., Scottish Widows Investment Partnership, SPDR Trust, MidCap SPDR
Trust, Select Sector SPDR Trust, State Street Institutional Investment Trust,
Stonebridge Funds, Inc., Stone Harbor Investment Funds, TDAX Funds, Inc., Utopia
Funds, W. P. Stewart Funds, Wasatch Funds, Westcore Trust, Williams Capital
Liquid Assets Fund, and WisdomTree Trust.
(b) To the best of Registrant's knowledge, the directors and executive
officers of ALPS Distributors, Inc. are as follows:
Edmund J. Burke President; Director
Thomas Carter Managing Director - Business Development;
Director
Jeremy O. May Managing Director - Operations and
Client Service; Assistant Secretary;
Director
Spencer Hoffman Director
John C. Donaldson Chief Financial Officer
Diana Adams Vice President, Controller, Treasurer
Robert J. Szydlowski Chief Technology Officer
Tane Tyler General Counsel; Secretary
Brad Swenson Chief Compliance Officer
The principal business address for each of the above directors and executive
officers is 1290 Broadway, Suite 1100, Denver, Colorado 80203.
ITEM 28. LOCATIONS OF ACCOUNTS AND RECORDS.
(a) ETSpreads, LLC, 44 Montgomery Street, Suite 2100, San Francisco,
California 94104 (records relating to its function as investment adviser for the
Registrant).
(b) ALPS Distributors, Inc., 1290 Broadway, Suite 1100, Denver, Colorado
80203 (records relating to its function as principal underwriter for
Registrant).
(c) Administrator (records relating to its function as administrator and
transfer agent for Registrant).
ITEM 29. MANAGEMENT SERVICES
All management-related service contracts are discussed in Part A or Part B
of this Form N-1A.
ITEM 30. UNDERTAKINGS.
Not applicable.
Pursuant to the requirements of the Securities Act of 1933, as amended,
and the Investment Company Act of 1940, as amended, the Registrant has duly
caused this pre-effective amendment to its Registration Statement to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of San
Francisco, the State of California, on the 7th day of July, 2008.
EXCHANGE TRADED SPREADS TRUST
--------------------------------------------
(Registrant)
By /s/ Stephen C. Rogers
---------------------------------
Stephen C. Rogers, Trustee
Pursuant to the requirements of the Securities Act of 1933, this amendment has
been signed below by the following persons in the capacities and on the dates
indicated.
SIGNATURE TITLE DATE
/s/ Stephen C. Rogers Trustee July 7, 2008
-------------------------
Stephen C. Rogers